PRINCIPLES  OF  INSURANCE 


THE  MACMILLAN  COMPANY 

NEW  YORK    •    BOSTON        CHICAGO 
SAN   FRANCISCO 

MACMILLAN  &  CO.,  Limited 

LONDON  •  BOMBAY  •  CALCUTTA 
MELBOURNE 

THE  MACMILLAN  CO.  OF  CANADA,  Ltd. 

TORONTO 


PRINCIPLES  OF  INSURANCE 


BY 
W.    F.    GEPHART,   Ph.D. 

ASSISTANT    PROFESSOR    OF    ECONOMICS 
OHIO    STATE    UNIVERSITY 


Univ.  •■ 


TXtto  gork 
THE   MACMILLAN   COMPANY 

1911 

All  rights  reserved 


< 


Copyright,  1911, 
By   THE   MACMILLAN    COMPANY. 


Set  up  and  electrotyped.     Published  September,  1911. 


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Nortoocirj  $reg8 

J.  8.  Cushin<j  Co.  —  Berwick  <fe  Smith  Co. 

Norwood,  Mass.,  U.S.A. 


INTRODUCTION 

It  is  a  remarkable  example  of  man's  faith  in  his 
fellow  man's  honesty  that  it  has  been  possible  to 
sell  millions  of  insurace  policies  when  the  purchaser 
knew  so  little  about  the  thing  which  he  purchased. 
As  a  teacher  and  salesman  of  insurance,  the  writer 
has  often  been  confronted  with  the  difficulty  of  pre- 
senting the  elementary  principles  of  insurance,  and 
this  volume  is  a  modest  effort  to  do  something  to 
elucidate  these  principles.  x  The  book  is  primarily 
intended  for  the  student  in  the  classroom  and  for 
the  general  readej  ivJ^J  jw^hes  to  know  something 
definite  about  insurance.  It  is  not  intended  for  the 
actuary  or  those  practical  insurance  men  who  are 
well  informed  upon  the  subject. 

The  subject  of  insurance  has  seemed  so  difficult 
of  comprehension  to  the  average  man  that  he  has 
usually  become  discouraged  after  making  a  few 
feeble  efforts  to  understand  it,  and  hence  its  princi- 
ples and  practices  remain,  even  to  most  possessors 
of  an  insurance  policy,  a  sealed  book  of  knowledge. 
The  difficulties  of  understanding  it  are,  however, 
more  apparent  than  real.  The  insurance  agent  with 
whom  the  public  has  come  most  immediately  in  con- 

v 

224439 


vi  INTR  OD  UC  TION 

tact  has  often  not  well  understood  the  subject,  since 
he  has  not  felt  this  necessary,  because  those  to  whom 
he  sold  insurance  knew  much  less  than  he  did  about 
the  subject.  Nor  has  the  literature  on  insurance 
contributed  greatly  to  its  understanding.  The  actua- 
ries who  have  written  on  the  subject  have  usually 
confined  their  writings  to  the  purely  mathematical 
aspects  of  insurance,  which  presumes  for  an  intelli- 
gent understanding  a  greater  knowlege  of  mathe- 
matics than  the  general  reader  and  student  possess. 

The  literature  on  insurance,  which  has  appeared 
since  the  insurance  investigations  in  the  public  press 
and  magazines,  has  often  been  written  by  those  who 
knew  little  of  the  subject,  and,  consequently,  has 
contributed  quite  as  much  to  a  misunderstanding 
as  an  understanding  of  insurance.  Not  until  within 
the  last  decade  has  there  been  any  general  disposi- 
tion on  the  part  of  the  officials  of  insurance  com- 
panies to  educate  the  public  or  even  their  policy 
holders  on  the  subject.  It  was  sincerely  believed 
by  many  of  these  officials  that  it  was  the  business 
of  the  company  to  sell  insurance  and  not  to  expend 
money  on  efforts  to  educate  the  public.  However, 
a  new  attitude  toward  this  question  has  come  to 
prevail  in  many  cases.  Legislation  of  a  restrictive 
character,  especially  as  regards  taxation,  has  been 
enacted  or  threatened  in  so  many  quarters  that  many 
officials  have  come  to  believe  that  the  best  way  to 
prevent  unfair  legislation  is  by  educating  the  public 


INTRODUCTION  vil 

to  a  better  understanding  of  the  character  and  pur- 
pose of  insurance.  Such  efforts  will  undoubtedly 
be  cumulative  in  their  good  effects,  for  if  successful 
they  will  result  in  more  intelligent  legislation,  both 
in  the  present  and  in  the  future. 

The  author  does  not  expect  in  this  small  volume 
to  supply  all  the  deficiencies  of  the  literature  in  the 
past,  but  he  does  not  share  the  opinion,  frequently 
expressed,  that  insurance  is  a  subject  beyond  the 
comprehension  of  the  individual  of  average  intelli- 
gence, and  this  volume  represents  a  modest  but 
sincere  attempt  to  aid  the  student,  within  and  with- 
out the  classroom,  in  the  understanding  of  a  subject 
which  now  means  much  and  promises  even  much 
more  for  the  happiness  and  prosperity  of  the  people. 

No  claim  is  made  for  originality  as  to  the  facts 
stated  in  these  pages,  since  most  of  these  have  been 
long  known  to  those  informed  upon  insurance.  It 
is  not  expected  that  the  reader  will  always  agree 
with  the  author  in  his  discussion  of  mooted  ques- 
tions, nor  is  such  agreement  essential.  It  is  ven- 
tured, however,  that  the  author  may  claim  some 
originality  as  to  the  method  of  treating  the  subject. 
So  far  as  the  literature  in  English  is  concerned,  there 
is  not  to  be  found  a  single  volume  which  attempts 
the  exposition  of  insurance  in  a  manner  suited  to 
the  use  of  a  classroom.  Practically  all  the  literature 
is  confined  to  special  aspects  of  the  subject.  If  an 
explanation  be  demanded  then  for  errors  in   treat- 


viii  INTRODUCTION 

ment,  the  author  may  suggest  that  he  has  had  no 
precedents  to  follow.  It  has  been  constantly  held 
in  mind  that  the  book  was  intended  for  those  who 
knew  practically  nothing  about  insurance,  and  it 
may  appear  to  the  reader  who  is  informed  upon  this 
subject  that  there  are  needless  repetitions.  This  is 
not,  it  is  believed,  to  be  the  case,  for  one  of  the 
greatest  difficulties  in  describing  insurance  is  the 
great  number  of  technical  terms  which  it  is  neces- 
sary to  use  and  which  have  new  significance  when 
connected  with  other  new  terms.  For  example,  the 
reserve  has  a  certain  significance  when  one  seeks 
to  compare  companies,  an  additional  meaning  when 
premiums  are  discussed,  and  still  something  more 
when  investments  are  considered. 

An  effort  has  been  made  to  select  such  readings 
on  each  topic  as  would  be  most  helpful,  although  in 
many  cases  such  references  will  doubtless  be  disap- 
pointing to  the  reader.  Much  of  the  best  literature 
is  either  in  pamphlet  form  or  in  the  insurance  jour- 
nals. An  exception  is  to  be  made  in  the  case  of 
insurance  statistics.  Such  annuals  as  the  Insurance 
Year  Book  of  the  Spectator  Company  leaves  little 
to  be  desired  in  the  way  of  statistical  literature. 
An  exception  is  also  to  be  made  in  the  case  of  the 
German  and  French  literature,  much  of  which  is  of 
a  very  high  character  and  in  general  much  more 
extensive  than  the  literature  in  English.  Few  ref- 
erences to   this   literature   have  been   made ;    first, 


INTRODUCTION  ix 

because  most  of  it  is  not  accessible  to  the  reader  of 
this  book,  and  second,  because  this  is  an  elementary 
discussion  of  the  principles  and  practices  of  insurance. 

It  is  not  expected  that  this  volume  will  serve  the 
complete  needs  of  a  course  in  insurance.  The  in- 
structor will  necessarily  supplement  the  text  by 
lectures  to  explain  in  greater  detail  the  topics  dis- 
cussed, and  especially  by  collecting  such  illustrative 
material  as  policy  forms,  annual  statements  of  the 
companies,  state  reports,  and  rate  books.  All  this 
and  other  material  can  easily  be  secured,  and  it 
affords  an  excellent  basis  for  some  valuable  instruc- 
tion. 

The  author  has  not  attempted  to  write  a  compre- 
hensive book  on  insurance,  if  the  word  "compre- 
hensive" is  taken  to  include  a  minute  discussion  of 
the  many  points  in  the  practice  of  insurance  organi- 
zations. The  effort  has  been  to  give  a  concise 
discussion  of  the  leading  principles  and  practices 
underlying  life  insurance  and  the  closely  related 
personal  health  and  accident  insurance,  together 
with  a  discussion  of  the  plans  of  insurance  for  the 
wage-earning  classes.  The  instructor  will  there- 
fore find  many  occasions  to  enlarge  upon  the  subject 
matter  of  the  book. 

A  second  volume,  discussing  Property  Insurance 
and  the  "  Miscellaneous  Lines,"  is  planned  along  the 
same  general  plan  of  this  book,  but  owing  to  the 
present  discussion  of  rates  and  schedule  rating  and 


X  INTR  OD  UC  TION 

the  experiments  being  made  in  state  rating,  the 
publication  is  postponed.  Several  of  the  miscella- 
neous lines  are  also  passing  through  such  a  rapidly 
developing  stage  that  much  of  what  would  now  be 
written  would  soon  be  incorrect. 

Grateful  acknowledgment  is  made  to  S.  E.  Stil- 
well,  Ph.D.,  F.A.S.,  Actuary  of  the  Ohio  Insurance 
Department,  for  many  valuable  suggestions  as  to 
statements  of  facts  and  methods  of  treatment,  and 
especially  for  aid  in  writing  the  parts  of  the  book 
which  pertain  to  the  actuarial  aspects  of  the  subject. 
He  has  read  and  criticised  the  entire  manuscript, 
but  the  author  alone  is  responsible  for  any  errors 
of  fact,  treatment,  or  omissions. 

W.  F.   GEPHART. 

Ohio  State  University, 
Columbus,  Ohio,  March  15, 1911. 


CONTENTS 

CHAPTER  I 

PAGE 

Life  Insurance  and  its  Historical  Development  .        1 

Insurance  and  life  insurance  denned  —  Origin  of 
insurance  —  Benefits  of  insurance  —  Social  and  eco- 
nomic aspects  of  insurance  —  Conditions  precedent 
for  insurance  —  Historical  development  of  insurance 
in  Europe  and  the  United  States  —  The  basis  of  scien- 
tific insurance  —  The  rise,  development,  and  charac- 
teristics of  assessment  insurance  —  The  nature  and 
present  status  of  fraternal  insurance  —  The  develop- 
ment and  purpose  of  industrial  insurance  —  Amount 
of  different  kinds  of  life  insurance  in  force. 


CHAPTER  II 
The  Theory  of  Life  Insurance 31 

The  theory  of  probabilities  and  its  application  to 
life  insurance  —  The  necessity  for  a  homogenous 
group  —  Insurance  is  concerned  with  average  results 
—  The  risk  in  life  insurance  —  The  limit  of  the  single 
risk  —  The  significance  of  the  compound  interest 
principle  in  insurance. 

(CHAPTER  III  ^ 
Mortality  Tables 47 

Character  of  mortality  tables  —  Historical   devel- 
opment of  the  tables  — Present  tables  in  use  —  Select 
xi 


Xll  CONTENTS 


and  ultimate  tables  —  The  N.  F.  C.  table  —  Methods 
of  constructing  mortality  tables  —  The  lives  at  risk  — 
Expectation  of  life  —  The  probable  life-time  —  The 
significance  of  the  number  of  lives  insured  in  a  par- 
ticular company. 


CHAPTER  IV 


The  Selection  of  Lives         ......      64 

Selection  defined  —  Benefit  of  selection  —  Effect  of 
introducing  new  lives  —  Self-selection  —  The  medical 
examination  —  Different  character  of  risks  —  Occupa- 
tion, sex,  race  and  regional  mortality  —  Mortality  and 
morbidity  —  The  moral  hazard  —  The  methods  of 
treating  sub-standard  lives  —  Rating  up  the  age  — 
The  lien  —  Charging  a  higher  premium  —  The  con- 
servation of  life  movement  in  relation  to  life  insur- 
ance. 


CHAPTER  V 

The  Company 99 

Classification  of  companies  —  The  Old  Line,  the 
Assessment,  and  the  Fraternal  Company  —  The  stock, 
mutual,  and  mixed  plan  —  Comparison  of  kinds  of 
companies  —  How  companies  are  internally  controlled 
—  The  effect  of  a  single  state's  laws  over  the  conduct 
of  the  business  in  other  states  —  How  a  company  is 
organized  —  The  internal  organization  and  operation 
of  a  company  —  The  chief  officials,  their  duties  and 
powers  —  The  chief  departments  of  a  company  — 
Organization  and  operation  of  the  agency  force  —  The 
business  of  selling  insurance, 


CONTENTS  xiii 


CHAPTER  VI 

PAOR 

The  Premium 130 

Definition  of  the  premium  —  Kinds  of  premiums  — 
Methods  of  calculating  the  different  premiums  —  The 
net  single  premium  —  The  whole  life,  term,  limited 
payment  life  and  endowment  premiums  —  The  gross 
premium  and  loading  —  The  preliminary  term  plan 
—  The  amount  at  risk  —  Premiums  in  industrial  and 
fraternal  companies. 


CHAPTER  VII 

Policies      ..." 150 

Definition  of  a  policy  —  Classification  and  descrip- 
tion of  policies  according  to  maturity,  dividends,  pre- 
miums, and  modes  of  settlement — Joint  life  policies 
—  Analysis  of  the  policy  contract  —  Historical  de- 
velopment of  the  policy — Terms  of  the  policy — 
Insurable  interest  —  Beneficiary  rights  —  Judicial 
construction  of  the  contract  —  The  disability  clause  — 
The  standard  policy — Standard  provisions  and  pro- 
hibitions —  The  absence  of  monopoly  in  the  insurance 
business. 


CHAPTER  VIII 

The  Reserve,  Surplus,  and  Dividends      .        .        .     178 

The  nature  and  importance  of  the  reserve  —  Method 
of  calculating  the  reserve  —  The  terminal  and  indi- 
vidual reserve  —  The  reserve  under  the  annual  pre- 
mium equivalent  to  that  under  the  single  premium  — 
Rule  for  calculating  the  reserve  —  The  reserve  of  an 
insurance  company  not  similar  to  a  bank  reserve  — 


XI V  CONTENTS 


The  origin  and  purpose  of  the  surplus  —  The  signifi- 
cance of  expense  and  new  business  —  Lapses  m  rela- 
tion to  profits  —  Legal  limitations  of  the  surplus  — 
The  divisible  surplus — The  character  of  dividends 
and  methods  of  apportioning  them  —  Deferred  divi- 
dends—  The  Tontine  plan. 


CHAPTER  IX 

Investments  and  Interests 205 

The  importance  of  the  subject  —  The  character  of 
the  investments  —  History  of  insurance  investments 

—  The  cash  item — Premium  notes  and  policy  loans  — 
Mortgages  and  bonds  —  Real  estate  —  Corporation 
securities — Assumed  interest  earnings  as  contrasted 
with  actual  earnings  —  Earnings  in  particular  invest- 
ments. Principles  to  govern  the  investment  of  insur- 
ance funds  —  The  insurance  policy  not  an  investment 

—  How  to  buy  insurance  —  Selecting  the  company  and 
the  policy  —  Advantages  of  each  kind  of  policies  — 
Comparing  companies  and  contracts. 


CHAPTER  X 

The  Relation  of  the  State  to  Insurance  .        .        .    233 

The  theory  of  the  state  regulation  of  insurance  — 
Character  of  the  regulation  previous  to  1855  —  How 
the  state  regulates  the  insurance  business  —  Regula- 
tion in  respect  to  the  organization  of  companies  — 
Regulation  of  foreign  companies  —  Laws  governing 
solvency  —  Special  statutory  requirements  —  Invest- 
ment of  the  deposit  and  the  reserve  —  Taxation  of  the 
insurance  business  —  Federal  versus  state  regulation. 


CONTENTS  XV 


CHAPTER   XI 

PAOB 

Insurance  for  the  Wage  Earners     .        .        .        .256 

Plans  of  protecting  the  wage  earners  —  Historical 
development  of  the  origin  of  the  demand  for  such 
protection  —  The  present  status  of  the  labor  class  — 
Industrial  insurance — The  policies  and  premiums  of 
industrial  insurance — Benefits  of  industrial  insur- 
ance—  Voluntary  organizations  of  workers  for  insur- 
ance purposes  —  Fraternal  societies — Trade  unions' 
insurance  —  Relief  departments  of  corporations  — 
Employer's  liability  insurance  —  The  historical  de- 
velopment of  the  theory  of  liability  —  The  law  of 
liability  in  the  United  States  —  Purpose  of  liability 
insurance  —  The  policy  and  premium  —  Objections 
to  employer's  liability  insurance  —  Protection  as 
granted  by  the  state  —  Government  insurance  for 
the  industrial  classes  in  foreign  countries. 


CHAPTER  XII 

Accident  and  Health  Insurance        ....    290 

The  character,  origin,  and  development  of  acci- 
dent insurance  —  The  evolution  of  the  policy  — 
Health  and  disability  insurance  —  Benefits  and  re- 
strictions in  the  policies  —  Method  of  conducting  the 
business  —  The  reserve  and  the  premium  —  The  set- 
tlement of  claims  —  The  relation  of  the  state  to  acci- 
dent and  health  insurance  companies. 

Bibliography 304 

Index 307 


PRINCIPLES  OF  INSURANCE 


:>>•{< 


CHAPTER   I 

LIFE  INSURANCE   AND   ITS   HISTORICAL 
»  DEVELOPMENT 

Insurance  is  an  agreement  to  pay  a  certain  sum 
of  money  to  compensate  for  the  loss  resulting  from 
some  contingent   event,  in    consideration  insurance 
of  an  immediate  cash  payment  or  a  series  Defined- 
of  payments.     The  loss  insured  against  may  happen 
soon,  may  be  long  deferred,  or  may  never  happen. 

Life  insurance  is  effected  by  a  contract  between 
two  parties,  the  insurer  and  the  insured,  in  which  a 
determined  sum  is  agreed  to  be  paid  to  Lifelnsur- 
a  third  party,  the  beneficiary,  upon  the  ance* 
happening  of  death,  on  condition  that  the  second 
party,  the  insured,  pays  certain  sums  to  the  first 
party,  the  insurer.  It  is  an  agreement  to  pay  a  cer- 
tain sum  in  the  future  by  the  insurer  in  considera- 
tion of  the  payment  or  payments  of  a  certain  other 
sum  by  the  insured.  It  is  a  form  of  social  coopera- 
tion and  had  its  real  origin  in  the  wants  of  the 
b  1 


2    ,«,  rjfllYCIPf^S  '&F  INSURANCE 

family.  It  is  a  method  of  distributing  the  effects 
of  losses.  It  is  a  mutual  agreement  among  many 
to  assume  the  burdens  suddenly  falling  upon  a  few. 
It  is  also  a  method  of  capitalizing  future  time  and 
energy  against  premature  death.  It  is  therefore 
based  on  the  fact  that  a  single  life  has  either  poten- 
tial or  actual  value. 

From  this  description  of  insurance  it  is  evident 
that  there  could  be  no  considerable  development  of 
.  f  insurance  until  society  had  progressed  to 
Lifeinsur-  the  stage  in  which  (a)  the  family  was 
definitely  established  with  social  obliga- 
tion and  rights,  and  (6)  the  individual  as  an  indi- 
vidual was  valued  as  a  member  of  society.  Until 
the  definite  sex  relations  of  the  monogamous  family 
were  established,  there  could  be  fixed  no  definite 
obligations  upon  the  different  members  of  the  family 
organization.  However,  in  the  monogamous  family 
organization  women  and  children  assumed  a  position 
at  once  more  definite  and  important  than  in  the  pre- 
vious family  organization.  Affection  and  a  sense  of 
responsibility  both  operated  to  place  definitely  upon 
the  husband  the  duty  of  caring  for  his  wife  and  chil- 
dren. To  a  less  degree  only  did  he  feel  the  obliga- 
tion of  caring  for  his  parents  and  those  of  his  wife. 
Thus  the  possible  widow  and  orphan  and  infirm  parent 
became  a  source  of  solicitude  for  the  husband,  who 
was  urged  by  the  definite  family  bond  to  make  pro- 
vision from  his  labor  for  their  care  and  maintenance. 


LIFE  INSURANCE  8 

In  the  second  place,  society  had  to  develop  to  the 
point  of  valuing  a  life  as  an  individual  life  before 
insurance  could  arise.  In  the  earlier  history  of 
civilization  it  was  only  the  exceptional  individual, 
the  king,  the  warrior,  or  the  priest,  whose  life  had 
any  considerable  value.  Division  of  labor  had  not 
proceeded  far  and  the  work  of  the  masses  was  so 
simple,  that  the  loss  of  any  one  person  was  not  greatly 
missed,  since  almost  any  other  person  could  do  his 
simple  task.  With  the  progress  of  society  and  the 
corresponding  minute  divisions  of  labor,  the  life  of 
each  came  to  have  a  definite  value  to  the  other  mem- 
bers of  the  group,  so  that  it  has  come  to  be  of  great 
importance  to  society  that  each  perform  his  allotted 
task  and  make  provision  for  meeting  his  obligations. 

Each  individual  comes  into  the  world  in  possession 
of  that  rich  heritage  from  the  past  which  makes  most 
members  of  society  debtors  throughout  life.  If  in 
addition  a  man  does  his  share  in  perpetuating  the 
race  by  assuming  the  family  relation,  society  has  a 
right  to  expect  that  he  will  make  proper  provision 
to  prepare  his  children  to  become  efficient  members 
of  society  by  providing  a  fund  out  of  his  surplus 
earnings  to  equip  them  properly  for  life  and  for  the 
maintenance  of  his  widow  in  the  event  of  his  pre- 
mature death.  Otherwise  his  family  may  become  a 
charge  upon  society.  They  are  a  form  of  debts  which 
must  be  paid,  and  it  is  a  kind  of  dishonesty  when  no 
provision  for  their  care  is  made,  no  less  culpable  than 


4  PRINCIPLES   OF  INSURANCE 

that  in  which  a  man  refuses  to  pay  his  monetary 
debts.  Life  insurance  thus  not  only  provides  for 
dependents,  but  it  also  prevents  an  increase  of  the 
dependent  class.  The  normal  development  of  the 
family  of  the  deceased  husband  is  permitted,  since 
provision  has  been  made  for  the  education  of  the 
children,  and  the  maintenance  of  the  wife,  which 
provision  the  husband  would  have  made,  had  he 
lived.  Thus  since  society  is  an  organism  made  up 
of  individual  units  and  is  benefited  by  whatever 
benefits  the  units,  life  insurance  promotes  the  well- 
being  of  society  by  properly  caring  for  the  social 
unit,  the  family. 

In  addition  to  these  purely  material  values  which 
life  insurance  secures  for  the  family,  it  undoubtedly 
Benefits  of  does  much  to  promote  the  best  family 
Insurance,  life  by  strengthening  mutual  affection,  by 
recognizing  and  meeting  family  obligations.  It 
doubtless  also  adds  to  the  efficiency  of  the  family 
because  it  relieves  the  members  of  it  from  an  anx- 
iety about  the  future.  Life  insurance,  then,  pro- 
motes a  sense  of  responsibility,  it  strengthens  family 
ties,  it  creates  unselfishness  and  thus  produces  a  high 
type  of  a  social  individual  by  inculcating  the  idea  of 
sharing  burdens  and  of  practising  widespread  col- 
lective cooperation.  The  direct  economic  values  of 
insurance  are  no  less  evident.  We  have  seen  that 
it  makes  possible  the  proper  training  of  the  children 
of  the  insured  by  providing  a  fund  for  their  educa- 


LIFE  INSURANCE  5 

tion,  thus  relieving  society  both  of  the  burden  of 
support  and  that  of  training.  It  also  relieves  the 
insured  from  anxiety  about  the  future  and  contrib- 
utes powerfully  to  his  efficiency  in  his  daily  work. 

Life  insurance  enforces  thrift,  for  the  ordinary 
contract  calls  for  the  payment  on  the  part  of  the 
insured  of  definite  sums  at  stated  inter-  insurance 
vals.  Through  lack  of  foresight  or  will  and  Thrift, 
power  few  men  will  save  unless  under  pressure. 
There  is  a  constant  temptation  to  overvalue  the 
present  as  compared  to  the  future,  not  because  the 
latter  is  uncertain  in  the  minds  of  most  men  in  their 
productive  years,  but  because  of  the  intense  pleas- 
ure of  present  consumption  and  lack  of  imagination 
in  visualizing  the  pleasures  of  future  consumption. 
Even  a  large  number  of  those  who  voluntarily  save 
do  so  only  intermittently.  The  savings  bank  depos- 
itor is  constantly  tempted  both  to  make  his  deposit 
less  than  he  is  able  to  make  it  and  to  spend  it  for 
conveniences  or  luxuries.  But  the  possessor  of  a 
life  insurance  policy  comes  to  look  upon  his  pre- 
mium in  much  the  same  light  as  the  giver  of  a  note 
or  mortgage  looks  upon  the  interest.  It  must  be 
paid.  Out  of  the  surplus  earnings  of  his  productive 
years,  a  sum  is  annually  set  aside  for  obligations 
either  already  created  by  his  family  connections  or 
for  his  own  maintenance  after  his  productive  years 
have  passed.  If  it  is  a  form  of  a  policy  which  ma- 
tures in  the  latter  part  of  a  man's  normal  lifetime,  it 


6  PRINCIPLES   OF  INSURANCE 

may  often  be  invested  more  wisely  as  well  as  more 
profitably  because  it  is  a  considerable  sum  and  the 
individual  has  had  years  of  experience  in  business. 
Meanwhile,  during  the  interval  the  small  yearly  con- 
tributions of  each  policyholder  are  combined  with 
those  of  millions  of  others  and  constitute  an  enor- 
mous fund  of  accumulated  capital  with  which  to 
conduct,  when  it  is  loaned,  the  large-scale  industrial 
enterprises  of  modern  times.  While  the  rate  of  in- 
terest secured  to  the  individual  policyholder  on  his 
annual  premium  may  not  be  large  in  the  abstract, 
yet  through  a  long  series  of  years  it  nets  him  in 
many  cases  a  greater  sum  than  he  would  be  able  to 
secure,  if  he  were  compelled  to  attempt  to  keep  his 
small  payment  continuously  invested  without  loss. 
Desirable  and  safe  investments  are  found  for  these 
collected  funds,  which  could  not  be  secured  by  the 
individual  contributors  to  the  fund.  Then,  too,  the 
final  payment  to  the  beneficiary  of  the  sum  secured 
by  his  small  annual  payments  is  certain,  even  though 
the  assured  pays  only  one  year's  premium.  This  may 
seem  inequitable  to  those  who  pay  into  the  fund  for 
many  years,  but  we  shall  see  later  that  the  computa- 
tions are  so  made  that  the  average  result  is  fair  to 
all. 

The  life  insurance  company  by  its  small  collec- 
tions from  many  sources  brings  together  large  bor- 
rowers and  many  small  lenders.  Life  insurance 
indirectly  creates   wealth   by  enforcing   thrift   and 


LIFE  INSURANCE  7 

saving  and  by  inculcating  habits  of  regularity  in 
living.  It  directly  affects  the  distribution  of  wealth 
in  that  it  is  a  fund  collected  from  the  con-  _ 

Insurance 

tributions  of  many  and  distributed  with-  andEco- 
out  any  necessary  relation  between  the 
amount  paid  in  and  the  amount  paid  out,  so  far  as 
any  one  individual  is  concerned.  That  is  to  say,  the 
principal  sum  may  be  paid  after  only  one  year's  pre- 
mium has  been  paid,  the  members  of  the  insured 
group  having  by  the  very  fact  of  their  becoming 
members  of  the  society  mutually  agreed  to  bear 
each  other's  burdens.  We  cannot  understand  in- 
surance unless  we  thoroughly  understand  this  prin- 
ciple, viz.  that  insurance  is  based  on  the  idea  of 
mutuality. 

The    conditions    precedent    for    insurance    are  : 
(a)    There   must   be   a   risk   of    a   real   loss   which 
1  neither  the  insured  nor  the  insurer  can  conditions 
) prevent  or  hasten;    (5)   a  large  number  ^insur- 
of   persons   must   be   liable  to   the  risk ;   ance. 
j  (c)  the  casualty  contemplated  must  be  likely  to  fall 
upon  a  comparatively  small  number  during  any  short 
)  interval ;   (d)  the  probability  of  its  occurrence  must 
be  capable  of  being  calculated  before  its  occurrence 
1  with  some  approximation  of  certainty ;   (e)  the  loss, 
(  when  it  does  occur,  must  be  considerable  enough  to 
f  be  worth  providing  against ;    (f)    the  cost  of  the 
\  provision  must  not  be  prohibitive  to  large  numbers 
of  persons. 


8  PRINCIPLES   OF  INSURANCE 

It  has  been  stated  that  life  insurance  had  its  ori- 
gin in  the  needs  of  the  family  and  was  prompted  by 

_      .    ,       the  affectionate  solicitude  of  the  head  of 
Historical 

Origin  of  it.  It  must  not  be  concluded,  however, 
that  affection  has  been  the  only  motive 
present  in  the  historical  development  of  insurance. 
The  gambling  or  wager  aspect  has  at  times  played 
a  part.  Purely  commercial  considerations  have  also 
been  of  some  importance.  It  is  manifestly  impos- 
sible to  fix  any  particular  date  for  its  origin,  since 
like  any  other  complex  social  institution  it  has  had 
many  different  phases  in  its  development.  We  may, 
however,  divide  its  development  into  two  periods : 
(a)  that  of  experimentation,  and  (6)  that  of  scien- 
tific exactness.  The  most  important  antecedents  of 
present  insurance  which  were  characteristic  of  the 
experimental  stage  were  as  follows :  (a)  agreements 
with  money  lenders  to  provide  money  for  purposes 
of  ransom  in  case  of  capture  where  an  individual 
went  on  commercial  ventures  to  foreign  lands  or 
religious  wars  or  pilgrimages,  or  an  agreement 
whereby  the  money  lender  paid  double  or  treble 
a  certain  sum  if  the  voyager  returned,  or  paid  cer- 
tain sums  to  his  family  in  case  he  did  not  return; 
(6)  the  establishment  of  purely  mutual  societies, 
sometimes  called  fraternities,  sometimes  guilds,  in 
which  each  member  contributed  an  equal  sum  for 
the  payment  of  fines  and  forfeitures  inflicted  on 
members  of  the  guild  who  had  committed  crimes  or 


LIFE  INSURANCE  9 

who  were  compelled  to  pay  damages  to  others  for 
the  loss  of  life  or  property.  When  payments  on 
account  of  death  had  to  be  paid,  these  payments 
were  usually  made  to  the  family  of  the  deceased 
member  of  the  fraternity.  This  was  a  form  of  so- 
cial insurance  which  has  somewhat  of  a  counterpart 
in  the  more  scientifically  conducted  fraternal  insur- 
ance of  the  present;  (<?)  the  purchase  of  annuities, 
that  is,  the  payment  of  certain  sums  of  money  to  an 
individual  at  stated  intervals  as  long  as  he  lived. 
To  do  this  it  was  necessary  to  have  mortality  rec- 
ords, and  we  find  that  the  Roman  jurist  Ulpian  com- 
piled in  a.d.  364  a  mortality  table  for  estimating 
the  value  of  life  annuities.  This  table,  considering 
the  imperfect  records,  was  remarkably  accurate.  It 
was  not  an  uncommon  practice  among  the  Romans 
to  bequeath  to  faithful  retainers  an  annuity.  An- 
nuities were  also  oftentimes  given  to  members  of  the 
family,  other  than  the  eldest  son. 

By  the  sixteenth  century  the  purchase  of  annuities 
had  become  common  in  the  commercial  cities  of  Eu- 
rope, although  they  were  not  based  on  very  scientific 
plans,  especially  after  the  fall  of  Rome,  when  the 
data  and  tables  collected  by  the  Romans  were  lost. 
It  was  also  a  practice  in  this  early  period  to  insure 
the  lives  of  individuals  who  held  life  interests  in 
estates.  Any  one  entitled  to  receive  during  his  life 
a  rent  or  a  pension  could  sell  insurance  on  his  life 
for  the  provision  of  his  family.     All  these  precursors 


10  PRINCIPLES  OF  INSURANCE 

of  insurance  were  unscientific  for  the  reason  that 
scientific  insurance  must  be  based  on  accurate  sta- 
tistics of  lives,  especially  death  rates  for  all  ages,  in 
order  to  know  when  payments  must  be  made  and  in 
what  amounts  they  will  be  demanded.  The  state  of 
society  precluded  such  an  institution  as  modern  in- 
surance. Life  was  too  uncertain.  War  was  a  game 
at  which  kings  played.  Princes  of  smaller  territo- 
ries often  waged  war  against  their  neighbors.  Quar- 
rels with  fatal  results  were  common.  Violence  was 
the  rule  of  the  time  and  single  lives  had  little  value. 
Plagues,  pestilence,  and  famine  were  dangers  ever 
present  in  almost  every  region.  Unsanitary  condi- 
tions of  living  were  a  characteristic  of  even  the  most 
civilized  people  if  measured  by  present-day  stand- 
ards. Medical  science  was  in  its  infancy.  The  du- 
ration of  life  was  a  lottery,  subject  to  so  many 
accidents  that  the  probability  of  its  duration  could 
be  measured  in  no  way.  It  is,  therefore,  evident  that 
life  insurance,  except  as  a  wager  or  hazard,  could  not 
exist. 

One  of  the  first  efforts  to  collect  vital  statistics 
was  made  in  1592,  when  the  first  London  Bills  of 

Mortality  were  published.  Since  1603 
for  Scientific  their    publication    has    been    continuous. 

The  original  purpose  of  their  publication 
was  to  allay  the  fears  of  the  people  of  London  who 
had  been  periodically  subject  to  the  plague.  Deaths 
were  reported  to  the  parish  clerk,  who  compiled  and 


LIFE  INSURANCE  11 

published  the  number  of  deaths  and  their  causes. 
The  attention  of  scholars  was  later  directed  to  this 
data,  and  deductions  as  to  death  rates  were  made. 

In  1664  John  Graunt  published  a  work  in  which 
he  attempted  to  place  a  value  on  the  duration  of 
life,  as  shown  by  these  Bills  of  Mortality.  However, 
his  data  were  far  from  complete  for  the  purpose  of  in- 
surance, since  they  often  did  not  give  the  ages  at  which 
the  individuals  died,  nor  was  there  any  information 
in  regard  to  births.  It  was  not  until  Dr.  Halley, 
the  Astronomer  Royal,  published  in  1693  a  mortality 
table  based  on  the  vital  statistics  kept  by  the  town, 
Breslau,  together  with  mathematical  formulas  for 
calculating  annuities,  that  the  real  basis  of  insurance 
was  established. 

In  1742  Simpson,  a  mathematician,  extended  the 
work  by  making  a  practical  application  of  the  theory 
of  probability  to  the  valuation  of  life  annuities. 
These  last  enumerated  facts  made  possible  a  trans- 
ference of  life  insurance  from  an  experiment  to  a 
science,  although  experimental  insurance  and  gam- 
bling under  the  guise  of  insurance  have  not  yet 
disappeared. 

In  1698  a  public  office  for  life  insurance  was 
opened  in  London  under  the  name  of  the  Mercers 
Company,  and   in  1699   the    Society    for  .  . 

the  Assurance   of  Widows   and   Orphans   of  Modem 
was   established   on    the    plan    that   each 
one  of  the  2000  members  should  pay  an  equal  sum 


12  PRINCIPLES   OF  INSURANCE 

and  each  family  should  receive  an  equal  sura  upon 
the  death  of  the  insured  member. 

The  Amicable  Society,  of  London,  the  first  purely 
mutual  company,  was  founded  in  1706.  Several 
other  companies  were  formed  during  this  period, 
but  most  of  them  failed  to  use  whatever  little  ac- 
curate scientific  knowledge  there  was  on  the  subject. 
All  of  them  charged  the  same  premium  rate  regard- 
less of  age.  Most  of  them  were  stock  or  proprietary 
companies,  all  of  which  had  failed  or  failed  at  the 
culmination  of  the  period  of  speculation,  the  burst- 
ing of  the  South  Sea  Bubble  in  1720.  The  Amicable 
Society  alone  survived  in  1720,  but  in  1721  the 
Royal  Exchange  and  the  London  Assurance  Com- 
panies were  formed,  both  of  which  are  yet  in  exist- 
ence. It  was  not,  however,  until  the  organization 
of  the  Equitable  Society  of  London  in  1762  that 
life  insurance  was  successfully  placed  on  a  scientific 
basis.  The  company  employed  the  mathematician, 
Dr.  Richard  Price,  who  would  now  be  called  an 
actuary,  to  determine  the  premiums  which  they 
should  charge.  He  drew  up  the  Northampton 
Table  of  Mortality  and  from  this  event  insurance 
as  a  science  may  be  said  to  date. 

In  America  the  history  of  the  development  of 
Historical  insurance  has  necessarily  been  different. 
Development  Many  of  tjie  settlers  were  doubtless  famil- 

of  Insurance  J 

in  America,  iar  with  the  history  and  operation  of  the 
English   and   continental    companies.      It   was   not, 


LIFE  INSURANCE  13 

however,  until  150  years  after  the  first  settlement 
of  the  country  that  a  life  insurance  company  was 
organized.  Population  was  very  sparse,  accidents 
and  dangers  of  death  were  numerous,  mutual  help- 
fulness generally  prevalent,  few  were  even  well-to- 
do,  and  data  as  to  birth  and  death  rates  were  very 
incomplete.  In  1759  there  was  organized  what  is 
now  called  the  Presbyterian  Ministers'  Fund,  under 
the  title  of  "  A  Corporation  for  the  Relief  of  Poor 
and  Distressed  Presbyterian  Ministers  and  of  the 
Poor  and  Distressed  Widows  and  Children  of  Pres- 
byterian Ministers."  This  society  gradually  devel- 
oped into  a  modern  insurance  company  and  still 
exists  as  an  excellent  insurance  organization.  It 
accepts  as  risks  only  ministers.  The  ministers  of 
the  Episcopalian  Church  organized  a  similar  society 
in  1769. 

The  Insurance  Company  of  North  America,  of 
Philadelphia,  was  organized  in  1794  and  although 
other  companies  were  organized  from  time  to  time, 
life  insurance  as  such  did  not  develop  much  until 
after  1835.  In  that  year  the  New  England  Mutual 
Life  Insurance  Company  was  chartered  by  Massa- 
chusetts. This  company  was  established  on  the  plan 
of  the  old  Equitable  of  London,  which,  during  the 
preceding  twenty-five  years,  had  been  very  successful. 
The  Equitable  of  London  was  a  purely  mutual  com- 
pany, but  the  legislature  of  Massachusetts  required 
the  incorporators  of  the  New  England  Mutual  to 


14  PRINCIPLES   OF  INSURANCE 

guarantee  a  capital  of  8100,000.  Owing  to  the  diffi- 
culty of  persuading  capitalists  to  supply  the  money, 
the  company  was  not  able  to  begin  writing  policies 
until  1843.  In  the  meantime  a  stock  company,  the 
General  Life  and  Trust  Company  of  Philadelphia, 
chartered  in  1836,  had  been  doing  considerable  busi- 
ness. It  had  provided  for  a  division  of  profits  with 
its  policyholders,  thus  furnishing  an  example  of 
what  is  called  a  mixed  plan,  that  is,  a  stock  company 
sharing  profits  with  policyholders.  Some  of  such 
companies  permit  a  partial  management  of  the  com- 
pany by  the  policyholders.  Owing,  however,  to 
the  great  New  York  Fire  in  1835,  which  caused  a 
failure  of  many  of  the  stock  fire  insurance  companies 
and  the  subsequent  organization  of  mutual  fire  insur- 
ance companies  which  seemed  to  be  successful ;  and 
owing  further  to  the  success  of  the  mutual  marine 
and  mutual  life  companies  in  England,  the  mutual 
plan  as  applied  to  life  insurance  came  into  great 
favor  in  the  United  States.  The  Mutual  Life  of 
New  York  was  organized  in  1842,  the  New  England 
Mutual  of  Massachusetts  began  writing  business  in 
1843,  the  Mutual  Benefit  of  New  Jersey  was  organ- 
ized in  1845,  and  the  New  York  Life  in  the  same 
year.  From  1843  to  1859  fifteen  other  companies 
were  organized,  and  the  aggregate  amount  of  insur- 
ance in  force  at  the  latter  date  was  $150,000,000,  an 
amount  less  than  any  one  of  several  companies  is 
now  able  to  write  in  a  single  year. 


LIFE  INSURANCE  15 

The  period  from  1860  to  1870  was  a  golden  age  in 
the  life  insurance  business.  Notwithstanding  the 
opening  of  the   Civil   War  and  the  fear  _,_.   _   .  . 

r  °  The  Period 

of  insurance  officials  that  the  insurance  from  i860  to 
business  would  decrease,  it  showed  a 
remarkable  increase.  During  the  decade  seventy- 
seven  new  companies  were  chartered,  making  a  total 
in  1869  of  one  hundred  and  ten  companies  with 
almost  a  billion  and  a  half  of  dollars  of  insurance  on 
their  books.  This  period  of  expansion  was  followed 
by  one  of  depression,  extending  from  1870  to  1880. 
The  causes  of  the  remarkable  growth  of  insurance 
during  the  preceding  period  and  the  consequent 
period  of  depression  may  be  grouped  under  the  fol- 
lowing heads : — 

First.  Insurance  was  a  new  idea,  which  in  its 
application  promised  to  satisfy  the  very  strong  char- 
acteristic of  the  Anglo-Saxon  to  make  provision  for 
his  family. 

Second.  Actuarial  science  had  not  developed  to 
any  great  extent  in  America.  These  numerous  com- 
panies, most  of  which  had  been  organized  on  the 
mutual  plan,  were  patterned  after  the  old  Equitable 
of  London,  which  now  had  a  successful  history  of 
over  a  century.  However,  they  did  not  follow  very 
closely  the  plan  of  the  Equitable.  Interest  rates 
were  much  higher  in  America  and  this  led  practi- 
cally all  of  them  to  charge  a  premium  only  from  30 
to  60  per  cent  as  large  as  the  Equitable  charged  for 


16  PRINCIPLES   OF  INSURANCE 

the  same  policy.  In  the  early  history  of  the  com- 
panies, when  the  death  rate  was  low,  even  the  col- 
lections of  these  lower  premiums  were  more  than 
sufficient  to  meet  the  claims  against  the  companies. 
The  companies  found  themselves  with  much  unused 
money  on  hand.  This  led  most  of  them  to  promise 
and  many  of  them  to  pay  enormous  dividends. 
Later,  when  some  of  the  companies  perceived  these 
mistakes,  the  competition  with  other  ignorantly  or 
dishonestly  managed  companies  led  them  to  continue 
the  policy  by  issuing  scrip  certificates  for  these  larger 
dividends.  These  were  redeemable  at  a  future  time, 
frequently  at  death.  When  the  death  rates  in- 
creased, as  the  company  became  older,  these  prom- 
ises of  large  dividends  could  not  be  kept,  and  many 
policyholders  were  disappointed. 

Third.  Many  of  the  mutual  companies  in  their 
desire  to  make  the  buying  of  insurance  easy  and  be- 
cause they  had  more  than  sufficient  funds  to  meet 
the  few  early  death  claims  accepted  notes  for  the 
premiums  due.  The  policyholder  was  led  to  believe 
that  his  dividend  accumulations  would  amount  to  as 
high  as  50  per  cent  of  the  premiums  due,  but  future 
events  so  sadly  disproved  this,  that  many  were  un- 
able to  make  payments  due  for  unpaid  premiums  and 
were  forced  to  give  up  their  insurance.  The  people 
who  knew  little  about  the  principles  upon  which 
scientific  insurance  should  be  conducted  came  to 
believe  that  insurance  was  a  "  swindle  "  and  refused 
to  purchase  it. 


LIFE  INSURANCE  17 

Fourth.  The  seeming  prosperity  of  insurance  com- 
panies caused  many  companies  to  be  organized  for 
the  purpose  of  a  speculation  or  for  pure  swindle. 

For  these  reasons  the  failure  of  companies  became 
numerous  after  1870,  and  the  panic  of  1873  greatly 
accelerated  the  movement,  so  that  by  1880  the 
amount  of  insurance  in  force,  as  compared  with 
1870,  had  decreased  almost  50  per  cent. 

The  period  from  1880  to  1905  may  be  considered 
as  the  one  in  which  the  companies  were  placed  on  a 
thoroughly  scientific  basis.     It  is  further  -.    _.  , 

°      J  The  Penod 

characterized  by  a  systematic  business  or-  from  1880  to 
ganization  of  the  companies,  a  liberaliza-  I9°  ' 
tion  of  the  contracts,  and  a  very  great  increase  in 
the  expense  of  securing  business,  due  in  part  to  the 
great  rivalry  of  companies,  in  part  to  the  general 
adoption  of  the  deferred  dividend  system  and  in  part 
to  the  invasion  by  some  companies  of  foreign  coun- 
tries to  secure  business.  The  amount  of  insurance 
in  force  during  the  period  increased  500  per  cent, 
reaching  in  1905  twelve  billions  of  dollars.  This 
refers,  of  course,  as  does  all  our  preceding  statements, 
to  level  premium  or  ordinary  life  insurance.  The 
development  of  other  kinds  of  insurance  is  described 
later. 

The  year  1905  is  chosen  as  the  close  of  a  period 
because  that  year  marks  the  beginning  of  change  in 
the  relation  of  the  state  to  the  conduct  of  the  insur- 
ance business.     Previous  to  this  date  the  states  had 


18  PRINCIPLES   OF  INSURANCE 

laid  down  in  general  laws  the  terms  upon  which 
companies  could  be  organized ;    many  of  them  had 

well-organized  insurance  departments,  but 
from  1905  to  the  character  of  the  relation  of  the  state 

to  the  business  preceding  1905  may  be 
described  as  that  of  a  general  supervising  nature. 
In  the  preceding  period  of  fierce  competition  and 
loose  supervision  many  well-defined  evils  arose.  In 
a  contest  between  two  parties  for  control  of  the 
management  of  a  prominent  New  York  company 
facts  were  disclosed  which  led  to  an  investigation  by 
the  state  of  New  York  and  subsequently  by  other 
states  of  the  management  of  several  insurance  com- 
panies. The  result  in  the  end  was  the  subjecting  of 
the  business  of  insurance  to  much  more  detailed 
regulation  than  in  any  other  period  in  the  past, 
either  in  the  United  States  or  in  foreign  countries. 
Laws  were  passed  regulating  the  amount  of  com- 
mission to  be  paid  to  agents,  the  total  amount  to  be 
spent  in  securing  new  business,  the  surplus,  the  plans 
of  apportioning  dividends;  the  amount  of  new  busi- 
ness to  be  written,  the  requirement  of  certain  provi- 
sions in  all  policies,  the  prohibition  of  certain  provisions 
in  all  policies,  and  particularly  greater  publicity.  As 
a  result  the  insurance  business  is  at  present  more 
minutely  regulated  in  the  United  States  than  in  any 
other  country  and  in  fact  little  further  is  left  to  be 
regulated.  There  is  already  some  evidence  of  a  re- 
action along  certain  lines  against  such  strict  regula- 


LIFE  INSURANCE  19 

tion,  for  it  is  becoming  apparent  that  some  of  the 
regulation  was  unnecessarily  burdensome  to  the  com- 
panies and  subserves  no  real  interest  of  the  policy- 
holder. However,  some  unwise  legislation  was  to 
be  expected  after  the  disclosure  of  the  evils  of 
the  period  of  lax  regulation.  Then,  too,  such 
gross  misrepresentations  were  made  at  the  time 
of  the  investigation  as  to  exaggerate  the  evils 
and  bias  the  minds  of  the  legislators  who  in  general 
knew  little  about  the  business.  Great  injury  has  often 
been  done  to  the  insurance  business  through  a  failure 
on  the  part  of  the  legislator  to  understand  the  char- 
acter of  insurance.  It  is  a  business  of  such  complex- 
ity and  the  ignorance  of  the  general  public  regarding 
it  is  so  great,  that  sometimes  their  representatives  in 
the  legislatures  are  used  by  men  acting  from  per- 
sonal motives  of  opposition  to  the  business  or  seek- 
ing popular  favor  by  the  common  practice  so  preva- 
lent in  these  later  times  of  attacking  anything  that  is 
big.  Probably  most  of  the  injury  has  resulted,  how- 
ever, not  from  evil  intent,  but  from  a  lack  of  under- 
standing, and  it  is  encouraging  to  note  that  more  and 
more  the  legislatures  are  depending  upon  their  insur- 
ance departments  to  recommend  the  passage  or  defeat 
of  measures  which  affect  insurance. 

Although  there  is  yet  considerable  opportunity  for 
making  the  state  departments  of  insurance  more  effi- 
cient, the  improvement  in  department  work  during 
the  last  six  years  has  been  very  marked.     It  must  be 


20  PRINCIPLES   OF  INSURANCE 

admitted,  however,  that  preceding  the  legislative  up- 
risings following  the  disclosures  of  1905,  the  com- 
panies themselves  had  done  little  to  inform  either 
policyholders  or  the  public  as  to  the  character  of  the 
business,  and  hence  were  not  in  position  to  expect 
many  sympathizers  or  supporters.  Happily,  efforts 
since  then  have  been  made  which,  if  continued,  will  do 
much  to  make  impossible  both  the  existence  of  many 
of  the  internal  evils  complained  of  in  the  past  as  well 
as  the  enactment  of  unwise  laws  designed  to  regulate, 
but  which  in  their  operation  restrict  the  business. 
The  campaign  of  educating  the  people  to  understand 
the  principles  of  insurance  and  to  appreciate  its  benefits 
must  be  vigorously  conducted  and  long  continued. 
There  is  scarcely  another  business  about  which  the 
average  man  is  so  ignorant  and  moreover  the  nature 
of  the  business  is  such  that  it  continually  tempts  the 
legislator  to  use  the  insurance  funds  as  a  source  of 
revenue,  for  he  is  seeking  the  easiest  sources  of  addi- 
tional revenue  for  the  increasing  state  expenditures. 
It  has  large  funds,  accumulated  from  many  different 
sources,  and  the  apparently  small  tax  rate  which  is 
usually  levied  on  the  gross  premiums  yields  a  large  rev- 
enue. Being  an  indirect  tax  widely  distributed  as 
to  payment,  the  real  burden  is  not  easily  perceived. 

What  has  been  previously  stated  in  reference  to  the 
historical  development  of  insurance  refers  in  the  main 
to  legal  reserve  insurance.  It  is  often  called  old 
line  or  level  premium  or  scientific  insurance.     Old 


LIFE  INSURANCE  21 

line,  legal  reserve  insurance  is  insurance  sold  by  a 
company  for  a  premium  or  premiums  fixed  in  amount 
during  the  length  of  the  policy,  or  for  a  Definition 
limited  period,  the  premiums  being  such  °f  Legal 
amounts  as  will  accumulate  a  sinking  fund  Insurance, 
or  reserve  which  together  with  future  premiums  will 
meet  all  obligations  of  the  company.     We  have  now 
to  describe  the  development  of  two  other  kinds  of 
life  insurance,  viz.  assessment,  and  industrial. 

The  general  plan  of  assessment  insurance  is  to  collect 
sums  from  each  of  the  members  of  the  society  as  the 
claims  fall  due,  but  there  have  been  many  Assessment 
modifications  of  this  plan.  In  some  cases  insurance, 
the  same  amount  was  collected  from  each  member, 
regardless  of  the  age  at  entry  or  attained  age.  In 
other  cases  there  has  been  an  attempt  to  adjust 
the  amount  collected  to  the  age,  but  in  practically 
all  cases  the  amount  collected  was  arbitrarily  decided 
without  much  reference  to  scientific  plans.  Fre- 
quently the  plan  called  for  the  payment  of  the 
same  amount  to  each  beneficiary  upon  the  death  of 
the  insured,  although  this  amount  might  differ  from 
time  to  time. 

In  Europe  the  assessment  plan  preceded  the  level 
premium  plan,  naturally  enough,  for  it  seemed  to 
supply  cheap  protection  upon  an  equal  basis.  In  the 
United  States,  however,  the  assessment  plan  did  not 
develop  until  after  the  level  premium  plan  was  well 
established.     The  early  settlers  brought  with  them 


22  PRINCIPLES  OF  INSURANCE 

the  prevailing  ideas  of  insurance  in  England  and  this 
was  the  level  premium  plan. 

Two  kinds  of  assessment  companies  must  be  dis- 
tinguished :  (a)  the  business  assessment  companies, 
and  (6)  the  fraternal  assessment  organizations.  In 
1867  the  first  important  business  assessment  company 
was  organized  in  the  United  States  and  in  1868 
appeared  the  first  important  fraternal  assessment 
company,  the  Ancient  Order  of  United  Workmen. 
This  association  is  yet  in  existence. 

It  may  be  difficult  to  explain  completely  the  causes 
for  the  rise  of  assessment  insurance  in  the  United 
States,  but  the  following  reasons  go  far  in  the  explan- 
ation :  (a)  The  disappointing  practice  of  the  early 
level  premium  companies  in  accepting  notes  of  the 
policyholders  for  the  premium  upon  the  supposition 
that  the  large  anticipated  dividends  would  equal  the 
face  of  the  notes.  These  notes  were  charges  against 
the  policy  and  bore  interest.  The  large  dividends 
promised  were  not  earned  and  the  policyholder  was 
in  the  position  of  having  less  insurance  and  an 
increasing  amount  to  pay  as  interest.  Now  the 
policy  in  the  earlier  years  of  insurance  in  the  United 
States  was  a  whole  life  policy  contract  with  level 
premium's  payable  as  long  as  the  insured  lived. 
None  of  the  present-day  benefits,  such  as  a  cash  sur- 
render value  in  case  of  failure  to  pay  the  premiums, 
a  loan,  or  paid-up  insurance,  were  provided  in  the  con- 
tract.   If  the  policyholder  ceased  to  pay  his  premiums, 


LIFE  INSURANCE  23 

he  had  no  insurance  and  previous  pa}rments  were  the 
property  of  the  company.  Many  policyholders  were 
unable  to  keep  up  the  payments  when  the  large 
dividends  did  not  accrue  and  when  their  interest 
debts  increased.  Many  were  forced  to  give  up  their 
insurance,  and  since  the  policy  did  not  provide  for 
any  cash  surrender  value,  many  felt  that  they  had 
been  robbed.  The  managers  of  the  companies,  most 
of  which  were  on  the  mutual  plan  had  not  under- 
stood insurance  and  were  deceived  by  the  low  death 
rate  in  the  earlier  years.  They  were  led  to  promise 
these  large  dividends  which  the  inevitably  higher 
death  rate  of  the  later  years  made  impossible. 

(6)  In  the  second  place  the  policyholder  perceived 
that  the  companies  had  accumulated,  particularly  in 
the  earlier  years,  sums  far  in  excess  of  the  demands 
made  by  death  claims,  and  they  could  not  under- 
stand the  necessity  of  this  reserve  fund.  They  were 
paying  more  than  was  necessary  and  getting  nothing 
when  they  ceased  to  be  a  member  of  the  company,  so 
they  reasoned.  This  violated  all  their  ideas  of 
mutuality,  the  plan  of  all  for  each  and  each  for  all. 
It  was  not  unnatural,  then,  that  the  assessment  plan 
became  very  popular,  and  when  the  hard  times  of  the 
seventies  came,  this  accelerated  the  movement  towards 
assessment  insurance.  Hundreds  of  business  assess- 
ment companies  were  formed  in  the  seventies  and 
eighties,  but  to-day  these  have  largely  passed  out  of 
existence,  and  those  in  existence  are  conducted  on 


■i 


24  PRINCIPLES   OF  INSURANCE 

somewhat  different  plans  from  those  of  the  early 
societies.  The  first  societies  started  on  the  plan  of 
collecting  the  same  amount  from  each  member  regard- 
less of  age.  Soon,  however,  this  unfair  plan  was 
changed  for  the  one  in  which  a  member  was  charged 
a  sum  at  entry  on  the  basis  of  his  age.  If  the  death 
rate  at  25  is  7  per  1000  and  at  50  it  is  10  per  1000, 
then  they  erroneously  reasoned  the  monthly  payment 
of  a  man  at  the  former  age  should  be  one  twelfth 
of  $7  and  at  the  latter  age  one  twelfth  of  $10. 
This  made  the  mistake  of  not  taking  into  considera- 
tion the  increasing  age  of  the  members  in  the  later 
history  of  the  company.  This  mistake  was  some- 
times recognized  later,  and  an  effort  was  made  by 
some  of  the  companies  to  correct  it  by  accumulating 
a  fund  by  an  addition  to  the  ordinary  assessment. 
This  in  practically  all  cases  proved  an  entirely 
inadequate  fund  to  meet  their  obligations. 

The  assessment  idea,  as  applied  to  fraternal  societies, 
has  had  quite  a  different  history.  It  must  be  stated, 
Fraternal  however,  that  all  fraternal  insurance  of 
insurance,  ^he  present  is  not  on  the  assessment  plan. 
Some  of  it  is  on  the  level  premium  plan  which  has 
already  been  described  as  that  of  the  old  line  com- 
panies, and  what  we  now  have  to  state  refers  to 
fraternal  insurance  on  the  assessment  plan.  It  has 
been  stated  that  the  first  fraternal  order  was  that  of 
the  Ancient  Order  of  United  Workmen,  founded  at 
Meadville,  Pennsylvania,  in  1868.     Two  stages  in  the 


LIFE  INSURANCE  25 

development  of  fraternal  societies  may  be  noted. 
The  first  stage  in  which  they  were  conducted  on  the 
unscientific  plan  of  the  earlier  assessment  orders,  and 
the  second  stage  of  transfer  to  the  scientific  plan  of 
reserve  insurance,  based  on  the  mortality  experience 
of  fraternal  societies.  It  is  not  intended  that  the 
reader  shall  infer  that  all  fraternal  societies  have 
passed  through  this  period  of  transformation  and  are 
now  on  a  scientific  basis,  for  many  of  them  are  strug- 
gling to  solve  this  difficult  problem,  and  doubtless 
many  will  not  be  able  to  solve  it.  No  further 
description  is  necessary  of  the  first  stage,  since  what 
has  been  said  of  business  assessment  societies  equally 
applies  to  fraternal  assessment  societies  on  this  plan. 
The  most  important  fact  in  connection  with  the 
fraternal  societies,  and  the  one  which  differentiates 
them  from  the  business  assessment  companies,  is  the 
fraternal  idea  which  characterizes  the  former.  It 
was  this  alone  which  made  possible  a  transfer  to  a 
scientific  basis.  This  idea  of  brotherhood,  a  willing- 
ness to  share  each  other's  burdens,  that  all  might 
have  protection,  induced  the  members  in  some  cases 
to  pay  the  necessary  higher  premiums  called  for 
when  the  society  undertook  to  correct  the  errors  of 
the  old  plan  by  accumulating  a  reserve.  Rates  were 
adjusted  in  some  fraternal  societies  and  are  being 
adjusted  in  some  others  by  this  appeal  to  the  frater- 
nal instinct.  Members  have  continued  in  the  soci- 
eties long  after  they  would    have  withdrawn  from 


26  PRINCIPLES   OF  INSURANCE 

the  business  assessment  societies.  Then,  too,  the  state 
has  interfered  very  little  with  the  conduct  of  frater- 
nal insurance.  The  societies  have  been  left  largely 
free  to  organize  and  conduct  their  business  as  they 
pleased.  Whether  this  has  been  an  ultimate  advan- 
tage may  be  questioned,  but  in  any  event  it  has  left 
them  free  to  adopt  their  own  plans  of  transfer  to  sci- 
entific insurance,  and  the  members  have  felt  that 
whatever  they  have  done  has  been  done  of  their  own 
volition  and  for  their  own  good.  These  societies  in 
time  came  to  use  a  mortality  table  based  upon  their 
own  experience.  This  table  has  a  lower  death  rate 
than  the  table  used  by  the  legal  reserve  companies; 
and  this,  coupled  with  the  fact  that  the  expense  of 
securing  members  and  conducting  the  insurance  busi- 
ness in  connection  with  their  other  fraternal  activi- 
ties is  lower  than  in  the  legal  reserve  companies,  makes 
the  transfer  easier. 

Fraternal  insurance  needs  no  defense  for  its  exist- 
ence. Mistakes  have  been  made  in  the  past,  and  errors, 
as  in  all  institutions,  are  yet  present.  The  pure 
assessment  plan  has  been  the  source  of  disappoint- 
ment to  thousands.  Many  have  made  years  of  sacri- 
fice from  which  their  dependants  have  received  no 
benefit.  Doubtless  some  have  been  induced  to  take 
out  regular  insurance  after  having  held  a  policy  in 
assessment  societies,  but  the  unfortunate  experience 
of  many  persons  in  assessment  societies  has  caused 
many  others  to  refuse  to  buy  any  kind  of  insurance. 


LIFE  INSURANCE  27 

Nor  is  it  a  complete  justification  for  the  existence  of 
the  pure  assessment  plan  to  maintain  that  at  least 
some  of  the  intended  beneficiaries  have  benefited  from 
these  small  inadequate  collections.  Some  do  benefit, 
but  many  others  lose  so  that  paradoxically  as  it  may 
seem  the  most  successful  assessment  society  is,  from 
one  point  of  view,  the  least  successful.  It  is  a  small 
temporary  benefit  in  exchange  for  a  large  future  in- 
justice. The  present  movement  by  insurance  com- 
missioners and  state  legislators  to  compel  fraternal 
societies  now  on  the  assessment  plan  to  operate  upon 
a  plan  such  as  will  insure  the  meeting  of  all  future 
demands  b}'  the  accumulation  of  an  adequate  reserve 
may  well  be  encouraged  and  will  certainly  come  to 
pass  in  time. 

Industrial  insurance  is  that  form  of  ordinary  level 
premium  insurance  in  which  the  premiums  are  paid 
weekly  to  the  agent  of  the  company  and  industrial 
in  which  the  amount  of  the  insurance  is  lnsurance. 
adjusted  to  the  premium.  The  premium  is  5  cents 
weekly  or  the  multiples  of  5  cents.  This  foim  of  in- 
surance originated  in  England  in  1849  by  the  forma- 
tion of  the  Industrial  and  General  Insurance  Company. 
The  business  of  this  company  was  assumed  by  the 
Prudential  Insurance  Company  of  the  same  country 
in  1854  when  Industrial  Insurance  as  now  known 
was  begun.  The  business  has  attained  enormous 
proportions  in  the  United  States,  although  over  90 
per  cent  of  the  business  is  done  by  three  companies, 


28  PRINCIPLES   OF  INSURANCE 

—  the  Prudential  of  New  Jersey,  organized  in  1875; 
the  Metropolitan  of  New  York,  organized  in  1875;  and 
the  John  Hancock  of  Massachusetts,  which  began 
writing  this  kind  of  business  in  1879. 

The  two  other  important  companies  are  the  Life  In- 
surance Company  of  Virgina,  organized  at  Richmond, 
Virginia,  in  1887,  and  operating  chiefly  in  the  south  ; 
and  the  Western  and  Southern,  organized  at  Cincin- 
nati in  1888,  and  operating  chiefly  in  the  middle  west. 
The  chief  purpose  of  industrial  insurance  is  to  pro- 
vide burial  funds  for  members  of  the  family.  Every 
member  can  be  insured.  As  its  name  implies,  it  is 
insurance  for  the  industrial  classes,  the  wage  earner, 
who  either  cannot  from  his  small  net  wage  save 
enough  to  carry  ordinary  insurance  or  who  will  not, 
from  lack  of  foresight  and  thrift,  save  enough  when 
his  wage  would  make  this  possible.  This  statement 
suggests  one  of  the  chief  values  of  this  form  of  insur- 
ance, viz.  that  it  is  a  powerful  factor  in  inculcat- 
ing habits  of  thrift,  saving,  and  industry.  Large 
numbers  of  those  who  first  carry  industrial  insurance 
may  later  carry  regular  insurance.  Not  only  does  it 
enable  the  family  to  enjoy  a  higher  standard  of  family 
life  and  meet  the  unexpected  obligations  incurred  as 
a  result  of  sickness  and  death,  but  it  also  has  a  direct 
value  to  society  in  that  it  relieves  it  of  the  expense 
of  meeting  these  obligations.  It  indirectly  benefits 
society  by  benefiting  the  units  of  which  it  is  com- 
posed —  the  family. 


LIFE  INSURANCE  29 

Industrial  insurance  may  be  compared  in  one  sense 
with  ordinary  insurance  by  describing  the  former  as 
insurance  at  retail  and  the  latter  as  insurance  at 
wholesale.  The  price  of  goods  and  services  on  the 
retail  plan  is  higher  than  on  the  wholesale  plan  and 
just  so  is  the  price  of  industrial  insurance  higher  than 
ordinary  insurance.  The  expense  of  collecting  weekly 
from  door  to  door  these  small  sums  from  so  many 
different  people  is  enormous,  which  added  to  the  in- 
creased office  and  accounting  work  explains  in  great 
part  its  higher  price.  The  premiums  are  based  on 
the  same  principles  as  are  those  of  ordinary  insur- 
ance and  the  insurance  is  as  scientific  as  the  latter. 
The  average  weekly  premium  paid  in  this  country 
is  about  10  cents.  The  greatest  problem  in  indus- 
trial insurance  is  to  reduce  the  expense  of  its  trans- 
action so  that  the  numerous  classes  which  it  serves 
may  secure  the  benefits  of  insurance  without  incur- 
ring the  risk  of  undermining  habits  of  industry  and 
thrift  by  any  public  form  of  charitable  relief.  The 
fuller  discussion  of  workingman's  insurance  is  deferred 
to  a  later  chapter. 

The  following  table,  exhibiting  the  insurance  car- 
ried on  by  the  old  line  regular  life  insurance  com- 
panies and  by  the  assessment  life  associations  and 
fraternal  orders,  shows  that  assessment  insurance  is 
still  an  important  factor  in  competition  for  life 
insurance. 


30 


PRINCIPLES   OF  INSURANCE 


Life  Insurance  Aggregates 


Written  in  1909. 

In  Force 
Dec.  81,  1909. 

Old  line  (ordinary)  .... 
Old  line  (industrial)      .     .     . 

$  1,332,873,539 
1,116,242,136 

$11,022,121,732 
4,458,599,479 

Total  old  line     .... 

Stipulated  premium .... 

Assessment  life 

Fraternal 

$2,449,115,675 

$  14,344,223 

210,367,123 

1,203,403,691 

$15,480,721,211 

$31,637,656 

742,722,444 

8,920,716,227 

Total  assessment  and  fra- 
ternal     

Aggregate 

Ratio  of  old  line  insurance  to 
aggregate 

Ratio  of  assessment  and  fra- 
ternal to  aggregate    .     .     . 

$1,428,115,037 
$3,877,230,712 

63.2 

36.8 

$  9,695,076,327 
$25,175,797,538 

61.5 

38.5 

REFERENCES 

Yale  Readings  in  Insurance.     Vol.  I,  Chaps.  Ill,  V,  VI. 
Annals  of  the  American  Academy  of  Political  Science.     Vol. 

XXXVI,  pp.  181^190,  308-316. 
The  Insurance  Year  Book  (Life).     The  Spectator  Company. 
Dawson,  Miles  M.     The  Business  of  Life  Insurance.     Chaps. 

Ill,  XXIX,  XXX. 
Fricke,  W.  A.     Insurance,  pp.  355-401,  442-452. 
Henderson,  C.  R.     Industrial  Insurance  in  the  United  States. 
Brown,  Benjamin  F.     The  Brown  Book  of  Life  Insurance. 
Walford,  Cornelius.     Cyclopedia  of  Insurance. 
Annual  Reports  of  the  State  Commissioners  of  Insurance. 


CHAPTER  II 

THE  THEORY  OF  LIFE  INSURANCE 

We  have  now  to  consider  the  theory  upon  which 
life  insurance  is  based,  and  in  its  most  important 
aspects  it  may  be  treated  under  the  two  heads :  (a) 
Rate  of  mortality,- and  (£)  Rate  of  interest.  Insur- 
ance is  the  assumption  of  risk  by  a  group  in  order 
that  the  individual  may  be  protected.  The  theory 
of  risk,  as  applied  to  insurance,  needs  to  be  explained; 
and  to  do  this  the  doctrine  of  chance  and  the  law 
of  probability  must  be  introduced. 

As  we  observe  phenomena  we  are  continually  mak- 
ing generalizations  from  the  data  collected  by  the 
examination   of   single  cases.     We  speak  _.    ■ 

&  r  The  Theory 

of  a  chance  happening,  meaning  by  this  ofProbabiii- 
that  a  certain  result  has  been  brought 
about  from  unknown,  or  unknowable  causes.  How- 
ever, most  of  the  results  or  phenomena  which  we 
ascribe  to  chance  pure  and  simple  become  knowable 
and  understandable  after  observation  is  made  over 
longer  periods  and  of  a  greater  number  of  events. 
Order  comes  out  of  chaos.  We  come  to  perceive 
aggregate  regularity  amidst  individual  irregularity. 
For  example,  it  is  a  fact  that  the  age  at  which  any 

31 


32  PRINCIPLES   OF  INSURANCE 

one  of  a  group  of  1000  children  will  die  is  unknown, 
but  continued  observation  of  the  life  history  of  such 
groups  of  children  will  disclose  a  regularity  of 
deaths  at  succeeding  ages.  Or,  again,  if  a  perfectly 
constructed  coin  is  spun  in  the  air,  it  may  fall  heads 
or  tails,  the  chance  of  a  head  or  tail  appearing  being 
one  half.  However,  if  it  is  spun  a  great  number  of 
times,  the  number  of  times  that  heads  and  tails  will 
come  up  will  approach  equality.  That  is  to  say, 
order  begins  to  appear  as  we  increase  the  range  of 
our  observation.  It  is  not  true  that  this  irregularity 
as  to  individual  instances  is  complete,  for  in  every 
case  it  has  definite  limits.  For  example,  it  is  absurd 
to  conclude  that  the  average  length  of  life  is  uncer- 
tain, because  we  cannot  foretell  when  an  individual 
child  of  the  1000  will  die.  It  certainly  will  be 
considerably  under  125  years,  just  as  the  coin  will 
certainly  come  up  either  head  or  tail. 

Bernoulli  has  summed  up  the  above  facts  in  the 
two  propositions:  (a)  that  the  probability  of  events 
happening  in  numbers  proportionate  to  their  respec- 
tive chances  in  a  single  trial  is  greater,  the  greater 
Bernoulli's  the  number  of  trials  or  observations ;  (6) 
statement.  \\\^  the  number  of  observations  or  ex- 
periments may  be  so  determined  that  the  deviation 
from  this  stated  ratio  approaches  certainty  as  closely 
as  is  wished,  or  concisely:  "In  the  long  run  events 
will  tend  to  occur  with  a  relative  frequency  pro- 
portional to  their  objective  probabilities."     The  toss- 


THE    THEORY  OF  LIFE  INSURANCE  33 

ing  of  the  coin  •  and  the  tendency  to  secure  an 
equal  number  of  heads  and  tails  as  the  number  of 
tosses  is  increased  illustrate  the  first  theorem ;  or, 
again,  if  the  births  of  10,000  children  are  known 
and  1000  die  the  first  year,  the  chances  of  any  one 
infant  living  during  the  first  year  is  ■£$.  As  the 
number  of  children  under  observation  increases, 
the  actual  results,  that  is,  the  deaths,  will  closer  and 
closer  approximate  the  calculated  ratio  of  deaths. 
That  is  to  say,  order  gradually  emerges  out  of  dis- 
order and  a  definite  and  recognizable  uniformity  is 
disclosed.  This  uniformity,  however,  has  certain 
conditions,  without  which  it  will  not  apply.  There 
must  be  a  sufficient  number  of  incidents  to  disclose 
it,  and  the  observations  must  be  confined  within 
definite  periods. 

That  is  to  say,  in  the  practical  application  of  the 
principle  to  life  insurance,  a  large  number  of  lives 
must  be  observed  within  definite  periods.  Application 
Ovvingf   to    advances    in    civilization,    to     oft^sThe- 

°  '  ory  to  Life 

improvements  in  living  conditions,  to  insurance 
changes  in  ideas  of  life  and  the  employments  of 
man,  the  average  duration  of  life  changes.  It  is 
certainly  now  longer  than  it  was  100  years  ago 
and  doubtless  its  duration  will  be  different  100 
years  from  now.  It  may  be  longer  or  shorter  either 
from  necessity  or  choice.  All  that  is  necessary  for 
successful  scientific  insurance  is  that  the  uniformity 
through  any  period  be  known,  even  though  the  uni- 


34  PRINCIPLES  OF  INSURANCE 

formity  be  subject  to  secular  changes.  We  therefore 
assume  in  life  insurance  that  the  conditions  determin- 
ing the  length  of  life  are  fixed,  and  that  we  have  a  fixed 
limit  —  the  average  duration  of  life  —  within  which 
or  towards  which  the  individual  length  of  life  is 
tending.  It  is  true,  indeed,  that  just  as  there  are 
"  runs  of  luck,"  as  when  in  tossing  a  coin,  heads  may 
come  up  continuously  for  several  times  in  succession, 
so,  too,  in  life  insurance  there  may  be  an  unusual 
number  of  deaths  within  a  short  period,  or  the  num- 
ber of  deaths  may  be  far  below  what  is  normally 
expected  and  calculated.  But  these  abnormal  ex- 
periences will  so  counteract  each  other  in  the  long 
run  that  the  total  result  will  be  in  harmony  with 
^the  uniformity  previously  observed. 

The  practical  effect  of  this  in  life  insurance  is  that 
those  who  live  longest  pay  into  the  general  fund  a 
more  than  proportionate  share  in  order  to  balance 
the  less  than  proportionate  payments  of  those  who 
die  earliest,  that  is,  die  before  they  have  experienced 
the  average  duration  of  life.  The  factors  which  in- 
^fluence  a  particular  individual's  length  of  life  are  too 
numerous  and  too  generally  well  known  to  need 
enumeration.  What  we  need  to  realize  is  that  the 
interaction  of  these  numerous  forces  upon  numerous 
individuals  produce  a  general  uniformity  which  is 
the  first  principle  upon  which  the  practice  of  in- 
surance is  based.  We  need  not  attempt  to  assign  to 
each  agency  affecting  the  length  of  life  its  respective 


THE   THEORY  OF  LIFE  INSURANCE  35 

force.  All  we  need  to  know  in  applying  the  theory 
of  probability  to  the  duration  of  life  is  that  certain 
major  forces  operate  upon  large  groups  of  individuals 
of  a  given  age  for  considerable  periods  of  time  with 
the  same  or  equally  increasing  degree  of  intensity. 
The  minor  forces  may  operate  now  positively,  now 
negatively,  thus  counteracting  each  other.  An  ex- 
ample of  a  major  force  would  be  climatic  conditions, 
and  an  example  of  the  minor  force,  the  character  of 
the  occupation. 

In  order  to  secure  a  greater  uniformity  in  experience, 
insurance    companies    endeavor   to  secure  a  homog- 
enousjrroup.     That  is  to  say,  they  exclude  The  Neces- 
individuals  affected  with  diseases,  such,  for  S.ty  for  a 

Homogenous 

example,  as  tuberculosis.  This  is  done  be-  Group, 
cause  these  individuals  bring  into  the  group  agencies 
affecting  the  length  of  life,  whose  force  cannot  with 
any  degree  of  accuracy  be  calculated.  If,  indeed,  the 
number  of  individuals  afflicted  with  any  particular 
disease  were  sufficiently  numerous,  a  certain  uniform- 
ity might  be  disclosed  so  that  the  average  duration  of 
life  of  the  group  being  known,  the  insurance  principle 
might  be  applied  to  them.  However,  practical  diffi- 
culties, not  only  as  to  sufficient  numbers,  but  also  as 
to  determining  the  influence  of  external  and  internal 
forces,  would  be  so  great  as  to  preclude  in  many  cases 
any  scientific  application  of  the  insurance  principle. 
Such  rapid  advances  are  being  made  in  the  control  of 
contagious   diseases,  the   ignorance    about  inherited 


36  PRINCIPLES   OF  INSURANCE 

diseases  is  being  so  rapidly  dispelled,  that  even  suppos- 
ing accurate  data  for  a  homogenous  abnormal  group, 
if  such  a  group  can  exist,  could  be  collected,  it  would 
not  be  true  of  the  succeeding  generation  of  this  de- 
scription. The  rate  at  which  10,000  consumptives 
now  die  would  not  be  the  rate  at  which  10,000 
with  the  same  disease  would  die  ten  years  from  now. 
The  group  to  which  insurance  is  to  apply  must,  there- 
fore, be  fairly  homogenous.  Indeed,  the  more  homog- 
enous the  group,  the  more  scientific  the  insurance, 
and  hence  the  more  equitable  will  the  principle  work 
to  the  individual  members  of  the  group.  The  force 
of  this  is  seen  in  the  increasing  demand  that  insur- 
ance companies  tabulate  the  experience  or  life  history 
of  the  various  classes  of  members  composing  the  soci- 
ety and  adjust  the  charge  for  insurance  on  the  basis  of 
this  experience. 

It  must  not  be  forgotten,  however,  that  insurance 
does  not  concern  itself  primarily  with  individuals  as 

Insurance  is  SUCll,  but  with  groups  of  individuals.  In- 
concerned  gurance  is  a  combination  of  risks,  and  while 
with  Average 

Results.  the  total  risk  for  the  company  is,  generally 
speaking,  the  sum  of  the  individual  risks,  yet  that 
part  of  the  risk  borne  by  an  individual  of  an  insured 
group  is  less  than  the  risk  borne  by  a  similar  individ- 
ual not  insured.  Insurance  is  interested  in  learning 
what  happens  to  that  fictitious  person,  the  average 
member  of  the  group.  It  does  not  assume  that  any 
particular  individual  will   live  any  definite  number 


THE    THEORY  OF  LIFE  INSURANCE  37 

of  years.  The  individual  may  be  the  victim  of 
chance.  It  assumes  irregularity  as  applied  to  individ- 
uals of  the  group,  but  regularity  as  applied  to  the 
group.  That  is  to  say,  of  a  large  number  of  individ- 
uals certain  numbers  will  die  at  certain  periods,  the 
numbers  living  beyond  the  average  lifetime  balanc- 
ing those  that  die  before  this  period.  Insurance  has 
therefore  been  denned  as  a  mutual  contract  among 
those  who  so  dread  the  consequences  of  the  uncer- 
tainty of  life  that  they  will  employ  the  aggregate 
regularity  to  neutralize  the  individual  irregularity. 
From  one  point  of  view  some  gain,  others  must  lose. 
It  is  from  one  viewpoint  an  individual  unfair  ar- 
rangement which  is  collectively  fair. 

Theoretically  there  is  scarcely  any  limit   to  the 
application  of  the  insurance  principle.     All  that  is 
necessary  is  to  have   a   relative    homoge-  Extent  to 
nous  group  exposed  to  a  risk,  the  prob-  which ,^e 

0         r         r  *  preceding 

ability  of  which  can   be  calculated  with  Principles 

iii  p  o      i     can  be  ap- 

some  reasonable  degree  ot  accuracy,     ouch  plied  t0  Life 
practical   difficulties  are,  however,  in  the  insurance, 
way  that  not  infrequently  we  witness  attempts  to 
apply  the  principle  which  are  little  less  than  a  gam- 
ble.     However,  the    distinction    between  Insurance 
and  Gambling  is  not  always  in  the  fact  that   phe- 
nomena cannot  be  observed  or  the  data  cannot  be 
organized  and  expressed  in  scientific  form.     The  dis-l 
tinction  in  reality  is  that  in  Gambling  individuals | 
are  exposed  to  unnecessary  risks,  while  in  Insurance 


38  PRINCIPLES   OF  INSURANCE 

n 


\the  risks  are  present  and  by  their  combination  and 
assumption  by  the  group,  the  individual  is  in  part 
freed  from  the  evil  effects  of  their  happening.  Again 
the  motives  which  impel  man  to  engage  in  insurance 
and  gambling  are  diametrically  opposed.  In  the 
former  case  it  is  a  desire  for  regularity ;  in  the 
I latter  it  is  a  love  of  the  irregularity  which  results 
[from  the  ujicertaintx  of  the  game. 

From  the  foregoing  discussion  it  must  be  clear 
that  the  insurance  company  knows,  not  only  the  total 
~~.   «.  ,  .      sum  that  must  be  collected,  but  also  the 

The  Risk  in 

Life  insur-  parts  of  the  sum  which  will  be  paid  out 
by  it  each  year.  It  is,  therefore,  able  to 
determine  the  amounts  necessary  to  be  collected  each 
year.  Disregarding  for  the  present  the  compound 
interest  accumulations,  it  may  be  said  that  the  amount 
to  be  collected  is  determined  by  the  risk,  and  the 
risk  is  measured  by  the  probability  of  payments  de- 
manded each  year.  (The  risk  is  the  difference  be- 
tween the  amount  the  company  has  obligated  itself 
to  pay  and  the  amount  which  it  has  reserved  from 
the  payments  made  by  the  individuals  to  whom  it 
promises  to  pay.  It  is  evident  that  the  amount  at 
risk  in  the  early  years  of  the  company's  existence  is 
absolutely  large,  since  it  has  reserved  from  its  pol- 
icyholders' payments  only  a  small  per  cent  of  the 
[amounts  which  it  has  obligated  itself  to  pay.  How- 
ever, the  risk  is  relatively  not  great,  for  the  company 
has  assumed  in  its  calculation  a  certain  death  rate 


THE   THEORY  OF  LIFE  INSURANCE  39 

among  its  members  and  certain  additions  to  the 
sinking  fund  or  reserve  from  interest  accumulations. 
Manifestly  if  it  should  be  called  upon  immediately 
to  pay  the  face  value  of  all  its  policies,  it  could  not 
do  so.  We  shall  see  later  that  there  is  even  less 
chance  of  a  large  number  of  demands  being  made  on 
the  insurance  company  than  upon  most  other  finan- 
cial institutions.  Nothing  could  cause  this  large  de- 
mand for  the  face  value  of  the  policies  other  than  a 
great  plague.  Nevertheless,  the  amount  at  risk  is  a 
question  which  demands  consideration  in  its  prac- 
tical bearing.  That  is  to  say,  the  character  and 
amount  of  the  individual  risks  as  such  determine 
the  character  of  the  total  risk  and  therefore  affect 
the  soundness  of  the  company. 

In  Insurance  more  than  in  most  kinds  of  business 
whatever  affects  unfavorably  the  parts,  affects  the 
whole.  For  example,  if  a  company  insured  at  nor- 
mal rates  a  great  number  of  under  average  lives, 
that  is,  individuals  who  did  not  experience  the  aver- 
age lifetime,  it  would  find  itself  in  the  position  of 
having  to  pay  obligations  before  the  time  calculated 
upon.  It  would  be  in  a  position  similar  to  an  in- 
dividual borrowing  money  to  build  a  factory  or  to 
finance  a  crop  and  being  called  upon  to  repay  the 
loan  before  his  factory  was  placed  in  operation  or 
before  his  crop  had  been  harvested.  Or,  again,  if  a  j 
company  should  insure  for  very  large  sums  an  un- 
due proportion  of  individuals  who  died  within  a  few 


40  PRINCIPLES   OF  INSURANCE 

years,  this  would  tend  to  impair  the  soundness  of 
the  company  and  in  any  event  would  reduce  the 
surplus.  In  this  connection  the  subject  of  suicide 
in  its  effect  upon  the  risk  arises  and  the  influence 
is  readily  perceived.  Most  companies  will  not,  there- 
fore, pay  the  face  of  the  policy  if  suicide  occurs  within 
one  or  two  years  from  the  date  of  issue  of  the  policy. 

Another  practical  problem  in  connection  with  the 
risk  was  suggested,  viz.  that  of  investments.  The 
Th  R'~k  d  comPany  nas  made  its  contracts,  not  only 
the  invest-  on  the  basis  of  having  a  certain  mortality 
Life  Insur-  experience,  but  also  on  the  basis  of  being 
ance*  able  to  earn  a  certain  interest  on  its  in- 

vested funds.  The  actual  mortality  experience  may, 
as  we  shall  see  later,  vary  from  the  calculated,  but  care 
should  be  taken  to  keep  the  actual  mortality  some- 
where near  the  expected.  Just  so  the  actual  earnings 
may  vary  from  the  expected,  but  care  must  be  taken 
to  keep  the  funds  invested  so  continuously  and  so 
profitably  and  so  safely,  that  the  investment  part  of 
the  business  contributes  its  aid  in  maturing  all  obliga- 
tions of  the  company. 

Insurance  has  to  do  with  a  great  number  of  future 
happenings,  the  occurrence  of  which  can  be  predicted 
with  sufficient  accuracy  to  determine  the  present 
action.  It  deals  with  probability  and  average.  If, 
for  example,  the  amount  of  the  risk  is  widely  dis- 
tributed, both  the  probability  of  a  general  deviation 
of  the  final  result  from  the  average  result  and  marked 


THE    THEORY  OF  LIFE  INSURANCE  41 

single  fluctuations  are  lessened.  The  same  principle 
is  applied,  not  only  in  the  number  of  insured  lives, 
but  also  in  investing  the  funds.  No  company  would, 
for  example,  invest  all  its  funds  in  railroad  bonds, 
however  good  the  investment  might  be  at  any  one 
time.  The  effect  on  the  amount  at  risk  is  similar  in 
each  case,  that  is  to  say,  an  effort  is  made  to  secure 
continuous  and  stable  results  throughout  the  period 
of  the  contracts.  No  specific  rules  can  be  laid  down 
as  to  the  limit  of  the  risk  on  individual  lives  or  the 
number  of  such  large  risks  which  a  company  may 
safely  write.  It  is  the  practice  of  many  companies 
to  limit  the  amount  of  insurance  which  is  written  on 
an  individual  life,  the  maximum  in  general  tending 
to  be  greater,  the  greater  the  total  amount  of  insur- 
ance on  the  books  and  the  wider  the  distribution  of 
risks  both  as  to  territory  and  kinds  of  contract.  It 
can  be  seen,  however,  that  other  factors,  such  as  the 
amount  of  the  surplus  accumulated,  enter  into  the 
problem,  for  the  range  of  fluctuation  is  a  resultant  of 
many  variable  factors. 

A  prominent  authority  has  summed  up  the  problem 
as  follows  :   "In  the  first  place  the  limit  of  the  risk 
is  not   one   which  at  present   has   to   do 
chiefly  with  the  solvency  of  the  companies,  the  single 
for  the  legal    reserve   companies  are  too 
substantially  founded  and  operated  to  cause  much 
concern  on  this  point.     In  its  immediate  effects  it  is 
a  problem. of  whether  the  company  will  be  able  to 


42  PRINCIPLES   OF  INSURANCE 

distribute  its  dividends  or  fix  its  premiums  at  the 
point  or  below  the  point  of  those  in  the  past."  Again 
the  limit  of  the  risk  in  the  early  history  of  companies, 
should  be  very  moderate  and  this  for  two  reasons  : 
first,  because  there  has  not  yet  been  accumulated  a 
sinking  fund  or  reserve  of  any  large  amount  to  meet 
assumed  obligations,  and  if  single  policies  of  large 
amounts  should  fall  due,  it  would  place  a  strain  upon 
the  general  resources  of  the  company  and  especially 
affect  the  dividend  rate  ;  and  second,  the  benefits  from 
compound  interest  have  not  yet  had  time  to  be  real- 
ized. After  a  time,  when  the  business  has  expanded, 
both  as  to  area  and  number  and  kind  of  policies,  and 
the  addition  to  the  reserve  has  become  large  from 
the  compound  interest  source,  the  limit  of  the  single 
risk  may  be  raised. 

The  reader  will  understand  that  the  large  risk  is 
from  one  point  of  view  a  special  risk  very  much  the 
same  in  its  influence  upon  the  most  successful  opera- 
tion of  the  company,  as  are  substandard  risks  or  an 
underaverage  life.  If  sufficient  numbers  of  these 
risks  could  be  secured  to  thus  make  up  a  homoge- 
nous group  no  particularly  difficult  problems  would 
be  presented,  for  a  normal  experience  could  be  de- 
duced from  the  individual  experience  which  deviated 
positively  and  negatively  from  the  normal.  Certain 
other  aspects  of  the  risk,  such  as  the  methods  of  deal- 
ing with  special  risks  are  reserved  for  a  more  de- 
tailed discussion  in  later  chapters.     This  statement 


THE    THEORY  OF  LIFE  INSURANCE  43 

must,  however,  be  considered  in  connection  with  the 
amount  of  surplus  which  the  company  has  accumu- 
lated. It  is  a  question  to  what  extent  these  large 
and  unexpected  claims  will  reduce  this  surplus. 

The  second  part  of  the  theory  of  insurance  has  to 
do  with  the  compound  interest  accumulations,  and 
this  may  be  discussed  briefly  at  this  point. 

We  have  seen  that  insurance  companies  assume 
that  only  a  small  number  of  policyholders  will  die  each 
year  and  that   the  reserve    fund   will    be  „ 

J  Compound 

augmented    each    year    by    its     interest  Interest  Cai- 

r^,  ,  .    ,  .  culations. 

earnings.  Ihe  reserve  is  the  sinking 
fund  accumulated  out  of  premium  payments  for  the 
purpose  of  meeting  obligations  as  they  fall  due. 
Since  the  life  insurance  contract  is  a  monetary  obli- 
gation extending  over  a  long  period  of  time,  this  in- 
terest accumulation  is  a  very  important  part  of  the 
principle  upon  which  the  companies  operate.  It  is 
these  interest  accumulations  which  determine  in  part 
the  premiums  to  be  charged.  The  rate  to  be  earned 
in  the  future  is  necessarily  a  subject  for  estimation, 
and  great  care  must  be  taken  in  fixing  a  conservative 
rate  which  can  be  attained  in  experience. 

The  most  important  point  to  understand  in  connec- 
tion with  the  interest  accumulations  is  that  it  is 
not  a  simple  interest  accumulation,  but  a  com- 
pound interest  accumulation.  That  is  to  say,  the 
yearly  interest  earned  on  a  premium  paid  in  is  not 
only  added  to  it  and  draws  interest  the  second  year, 


44  PRINCIPLES   OF  INSURANCE 

but  at  the  beginning  of  the  second  year  another  prin- 
cipal—  the  premium  —  is  added  and  with  the  origi- 
nal principal  draws  interest.  For  example,  $100 
invested  for  one  year  at  4  per  cent  yields  1104.  If  the 
principal  sum  the  second  year  is  the  original  one  plus 
the  interest,  it  becomes  at  the  close  of  the  third  year 
$112.48,  whereas  at  simple  interest  the  sum  would 
merely  be  $112.  A  continuation  of  the  calculation 
would  show  that  the  difference  between  simple  and 
compound  interest  grows  greater  with  time,  so  that,  for 
example,  at  the  fortieth  year  the  difference  between 
the  two  interests  for  $100  is  $220.10,  that  is,  $100  at 
compound  interest  would  amount  to  $480.10,  while  at 
simple  interest  it  would  amount  to  $260.  But  the 
above  illustration  does  not  represent  the  actual  facts 
in  regard  to  the  finances  of  an  insurance  company, 
because  each  year  it  receives  from  the  policyholder 
another  premium  which  is  added  to  the  previously 
received  premiums  and  their  interest  accumulation. 
This,  then,  constitutes  a  new  principal  upon  which 
.interest  is  earned. 

The  $100  sums  paid  thus  and  invested  at  4  per  cent 
would  amount  at  the  close  of  the  fourth  year  to 
$141.63,  whereas  the  interest  on  an  original  and  sin- 
gle payment  of  $100  with  its  interest  accumulations 
compounded  amounts  only  to  $116.98.  The  amount 
of  $100  yearly  payments  with  the  payments  and  their 
interests  compounded  each  year  can  be  calculated  from 
the  simple  algebraic  formula  for  n  years  as  follows  :  — 


THE    THEORY  OF  LIFE  INSURANCE  45 

in  which  1  equals  the  principal  sum,  i  the  interest, 
n  the  number  of  years,  and  R  the  principal  sum  plus  the 
interest.  But  a  company  must  not  only  know 
that  it  can  accumulate  funds  at  a  certain  rate, 
but  also  what  sums  it  must  collect  upon  which 
interest  is  to  be  accumulated.  That  is  to  say, 
knowing  from  the  mortality  table  that  a  certain  num- 
ber of  deaths  will  occur  each  year  and  knowing,  there- 
fore, that  the  total  payments  to  be  made  are  the  sums 
named  in  the  policies  of  those  dying,  it  must  know 
what  sums  invested  at  a  certain  rate  of  interest  will 
amount  to  the  total  face  value  of  the  claims  made. 
Concretely,  the  question  is,  if  $100  is  to  be  demanded 
one  year  from  now,  what  sum  invested  at  4  per  cent 
will  yield  $100  ?  This  is  the  simple  problem  of  cal- 
culating the  present  worth  of  a  future  sum. 
The  problem  is  solved  as  follows  :  — 

—  =  196.15. 

The  present  worth  in  two  years  is  $92.46,  and  likewise 
the  present  worth  for  any  number  of  years  is  found 
by  the  general  formula 


vm  = 


(1  +  0"' 


in  which  vm  is  the  present  value  of  $1  due  in  any 
number  of  years,  i  the  interest,  and  m  the  number  of 


46  PRINCIPLES   OF  INSURANCE 

years  for  which  the  calculation  is  made.  The  appli- 
cation of  this  principle  will  be  explained  when  the 
subject  of  premiums  and  premium  calculation  is  con- 
sidered. We  thus  see  that  the  science  of  life  insur- 
ance is  based  upon  calculations  involving  mortality 
statistics  and  compound  interest  earnings.  It  is  a 
combination  of  the  theory  of  probabilities  and  the 
principles  of  finance. 

REFERENCES 

Pearson,  Karl.     Chances  of  Death.     Vol.  I,  Chap.  I. 
Grammar  of  Science,  Chap.  IV. 

Jevons,  Stanley  W.     Principles  of  Science.     Chap.  X. 

Bowley,  A.  L.     Elements  of  Statistics.     Part  II,  pp.  261-355. 

Venn,  John.     The  Logic  of  Chance.     Chaps.  I,  II,  III,  IV,  XV. 

Willett,  Allan  H.  Columbia  University  Studies  in  Eco- 
nomics, History,  and  Public  Law.  Vol.  XIV,  Chaps.  I,  II, 
III,  IV,  V,  VI. 

Yale  Readings  in  Insurance.     Vol.  I,  Chaps.  I,  IV,  VII. 

Principles  and  Practices  of  Life  Insurance.  The  Spectator 
Company,  Publishers. 

Brown,  Mary  W.     The  Development  of  Thrift.     Chap.  VI. 


CHAPTER   III 


MORTALITY  TABLES 


If  the  reader  seeks  to  understand  the  principles 
upon  which  life  insurance  is  based  and  practiced,  he 
must  thoroughly  grasp  the  significance  of  the  mor- 
tality table.  The  discussion  of  the  theory  of  insur- 
ance given  in  the  preceding  chapter  is  therefore 
continued  in  this  and  the  succeeding  chapter,  in 
which  the  practical  application  of  the  theory  of  prob- 
abilities is  treated. 

A  mortality  table  is  a  table  which  shows  the  num- 
ber of  persons  remaining  alive  at  each  age  out  of  a 
given  number  and  also  the  number  dying  character 
during  each  year  of  age.  It  is  "the  in-  "J^rtSjy 
strument  by  means  of  which  are  measured  Tables, 
the  probabilities  of  living  and  dying."  The  table 
does  not  show  the  actual  individual  experience  of 
the  group  at  each  age,  but  an  average  with  the  devia- 
tions reduced.  The  number  upon  which  the  experi- 
ence is  based,  usually  100,000,  is  called  the  radix  of 
the  table.  A  table  may  commence  at  any  age,  but 
usually  begins  at  10  with  the  upper  limit  at  100 
years.  The  sources  of  the  data  from  which  such 
tables   are  constructed   are    usually   either   general 

47 


48  PRINCIPLES   OF  INSURANCE 

population  statistics  or  statistics  of  insured  lives. 
We  therefore  have  the  two  chief  classes  of  tables,  the 
general  or  population  tables  and  the  select  tables  of 
mortality.  Manifestly  the  early  tables  were  of  the 
first  kind,  and  we  have  already  described  the  use 
which  was  made  of  the  incomplete  and  incorrect  data 
of  the  London  Bills  of  Mortality. 

The  Breslau  table,  drawn  up  by  Halley  was  a  pop- 
ulation table.  The  Northampton  table,  drawn  up 
by  Dr.  Price  in  1783  was  also  of  this  description. 
However,  in  neither  case  was  there  an  enumeration 
of  the  general  population.  Both  were  based  chiefly 
on  the  records  of  death.  In  two  provinces  of  North- 
ampton Dr.  Price  had  a  record  of  the  baptisms  as 
well  as  of  the  deaths.  These  tables  were  unreliable, 
for  even  now  in  many  parts  of  modern  nations  vital 
statistics  are  not  taken  with  sufficient  care  and  re- 
sultant accuracy  to  serve  as  a  basis  for  the  deductions 
found  in  a  really  scientific  mortality  table.  The 
element  of  error  was  much  greater  in  these  early 
times  when  the  practice  of  taking  vital  statistics  had 
scarcely  begun.  There  are  so  many  variable  factors 
which  affect  the  birth  and  death  rate  in  a  population, 
such,  for  example,  as  movements  of  population,  occu- 
pations, sex  and  age,  composition  of  the  group,  mis- 
statement of  age,  etc.,  that  great  care  is  needed  in 
deducing  general  principles. 

The  Carlisle  table  drawn  up  in  1815  by  Joshua 
Milne  was  another  population  table,  but  it  was  much 


MORTALITY   TABLES  III 

more  accurate  than  the  two  preceding  tables.  It 
was  based  upon  the  population  of  two  parishes  in  the 
town  of  Carlisle,  England,  and  the  deaths  during  a 
period  of  eight  years.  This  table  has  been  generally 
superseded  by  later  tables  for  the  purpose  of  insuring 
lives,  although  it  is  sometimes  used  for  the  calculation 
of  survivorship  benefits.  The  statistics  on  which  it 
was  based  were  made  up  of  a  greater  number  of 
females  than  males  and  therefore  introduced  an  ele- 
ment of  error  for  the  insurance  of  males,  the  sex  to 
which  insurance  was  largely  confined.  The  North- 
ampton table  is  also  yet  used  in  some  states  by  the 
courts  for  ascertaining  the  value  of  annuities. 

As  soon  as  life  insurance  companies  were  formed, 
their  tabulated  experience  on  insured  lives  supplied 
the  data  for  constructing  more   accurate  Present 

r™  •       Tables  in 

mortality  tables.      I  he  common  errors  in  use. 

population  statistics  are  almost  entirely  absent  in  the 

statistics   of   insurance  companies,  for  among  other 

advantages,   the  company  knows  the  ages  of  those 

taking  out  insurance,  and  the  ages  at  death.     They 

are  thus   able  to  have  under   continual  observation 

a  great  number  of  individuals  at  various  ages  and  when 

the  observations  of  several  companies  are  combined, 

the  data  are  more  accurate.     In  1843  the  English 

Actuaries'  or  the   Combined  Experience  Table  was 

published.     This  was  based  upon  the  experience  of 

seventeen  life  insurance  companies  which  included 

the  history  of  84,000  policies  between  the  years  1762 


50  PRINCIPLES   OF  INSURANCE 

and  1833,  of  which  14,000  were  terminated,  by  death. 
The  experience  of  males  and  females  was  separated, 
the  table  showing  a  lower  death  rate  for  the  latter 
between  the  years  20  and  50.  Later  statistics  have 
somewhat   modified   the   conclusions   of   this   table. 

This  table  is  becoming  less  generally  used,  espe- 
cially in  the  United  States,  where  the  American  Experi- 
ence Table  of  Mortality  is  generally  used.  The  Ameri- 
can Experience  \.  able  is  the  one  prescribed  by  the 
laws  of  most  states  as  the  basis  for  the  valuation  of 
policies  issued  since  January  1,  1901.  Most  policies 
issued  previous  to  this  date  are  valued  on  the  Actua- 
ries' Table.  The  American  Experience  Table  was 
frhe  worX  of  an  actuary,  Sheppard  Homans,  who 
derived  it  for  the  most  part  from  the  experience  of 
the  Mutual  Life  Insurance  Company  of  New  York. 
It  was  published  in  1868.  It  represents  with  consid- 
erable accuracy  the  experience  of  insured  lives  after 
the  benefit  of  selection  has  passed,  that  is,  after  the 
lower  death  rate,  due  to  a  recent  medical  examination, 
has  passed.  It  is  assumed  that  this  benefit  disap- 
pears after  about  five  years. 

When  mortality  tables  are  calculated,  showing  the 
benefits  of  this  medical  selection  during  each  of  the 
sit  d  ^ve  years'  tney  are  called  Select  Mortality 
Ultimate        Tables  in  contrast  to  Ultimate  Mortality 

Tables. 

Tables,  which  are  those  from  which  the 
experience  of  the  first  five  years  has  been  eliminated. 
The  term  "  Select  Tables  "  is  used  in  two  other  senses : 


MORTALITY  TABLES  51 

(a)  a  table  based  upon  the  experience  of  insured 
lives,  since  these  may  be  considered  as  constituting 
a  select  class  ;  and  (6)  a  table  based  on  the  specific 
experience  of  groups  of  the  same  age  at  entry  and 
duration  of  insurance.  This  last  is  simply  a  greater 
degree  of  selection  in  that  the  intermixing  of  the 
different  rates  of  mortality  of  different  ages  and 
duration  of  insurance  is  avoided.  If  sufficient  num- 
bers for  each  age  could  be  secured,  this  would  make 
possible  the  most  scientific  insurance.  With  the 
increasing  accuracy  of  vital  statistics  in  modern 
nations  and  the  increased  experience  of  insurance 
companies,  both  as  to  numbers  of  lives  insured,  dif- 
ferent ages  of  policyholders  represented,  duration  of 
insurance,  and  increased  amount  of  insurance  taken, 
more  accurate  mortality  experiences  of  different 
classes  are  being  obtained. 

Dr.  Farr  drew  up  the  Healthy  English  Table 
from  the  English  Census  of  1851.  It  was  based  on 
the  records  of  births  and  deaths  in  sixty-three  of 
the  healthiest  registration  districts  of  England  and 
Wales.  Still  another  is  the  Hm  or  Healthy  Males 
Table,  based  upon  the  experience  of  twenty  British 
companies.  This  table  is  very  generally  used  in 
Canada.  It  was  published  in  1869  by  the  British 
Institute  of  Actuaries.  This  same  association  has 
made  a  careful  investigation  of  insured  lives  between 
the  years  1863  and  1893  and  published  the  results 
in  tabular  form.     The  investigation  also  included  a 


52  PRINCIPLES   OF  INSURANCE 

record  of  the  influence  on  mortality  of  classes  as 
affected  by  duration  of  policy,  kind  of  policy,  and 
withdrawals.  The  Imperial  Statistical  and  Insur- 
ance Departments  of  Germany  have  issued  new  life 
tables  which  are  based  upon  elaborate  and  carefully 
collected  statistics  covering  the  decade  1891-1900. 
The  thoroughness  of  the  investigation  is  indicated 
by  the  statement  that  it  included  the  decade  his- 
tory of  about  50,000,000  lives  and  over  11,000,000 
deaths. 

The    National    Fraternal    Congress    Table  —  the 
N.  F.  C.  Table  —  is  a  result  of  the  work  of  the  com- 

-,    „  mittee  on  statistics  of  the  National  Fra- 

The  Frater- 
nal Congress  ternal  Congress,  which  published  in  1899 
Tables 

the  result  of  its  investigations  of  the 
mortality  experience  of  persons  insured  in  fraternal 
societies.  The  rates  of  mortality  of  this  table  are 
much  lower  than  the  rates  in  the  American  Mortality 
Table.  For  example,  the  mortality  rate  in  the  N.  F.  C. 
Table  at  age  20  is  5  per  1000  lives  and  in  the  Ameri- 
can Table  7.81 ;  at  40  in  the  former  table  it  is  7.17 
and  in  the  latter  9.79;  at  60  in  the  former  22.75 
and  in  the  latter  26.69.  The  fraternal  orders  can 
conduct  the  business  of  insurance  more  cheaply  than 
the  commercial  companies  only  by  making  a  better 
selection  of  lives,  by  earning  greater  interest,  or  by 
doing  business  at  a  lower  expense.  Of  these  possi- 
bilities only  the  last  is  a  probability,  and  this  in  its 
highest  realizations  is  often  not  sufficient  to  equal 


Tables  ok  Mortality 


AcTirAims    oi 

American 

A.    It  ARlE-i'   OB 

Ami:i:i.   \n 

COMHIMI' 

EXPERIENCE 

OoMsnrap 

Expekii  \.  i: 

EXPERIENCE 

Tabu 

Tahle 

I'.\i'i:kii:n<k 

Taiu.k 

Tabu 

OF 

of 

or 

OF 

Mortality. 

Mortality. 

MORTAI  1  IV. 

Mortality. 

At 

Age. 

Number 

Number 

At 
Age. 

Number 

Number 

Surviv- 
ing. 

Deaths . 

Surviv- 
ing. 

Deaths. 

Surviv- 
ing. 

Deaths. 

Surviv- 
ing. 

Deaths. 

10 

100,000 

676 

100,000 

749 

55 

68,469 

1,375 

64,563 

1,199 

11 

99,324 

674 

99,251 

746 

56 

62,094 

1,436 

63,864 

1.200 

12 

98,650 

672 

98,505 

748 

57 

60,658 

1,497 

62,104 

1,825 

18 

97,978 

671 

97,762 

740 

58 

59,161 

1,561 

60,779 

1,894 

14 

97,807 

671 

97,022 

787 

59 

57,600 

1,627 

59,885 

1,468 

15 

96,636 

671 

96,2S5 

785 

60 

55,973 

1,698 

57,917 

1.546 

16 

95,965 

672 

95,550 

782 

61 

54,275 

1,770 

56,871 

1.02s 

17 

95,298 

673 

84,818 

729 

62 

52,505 

1,844 

54,748 

1,718 

IS 

94,620 

675 

94,0S9 

727 

63 

50,661 

1,917 

53,030 

1,800 

19 

93,945 

677 

93,362 

725 

64 

48,744 

1,990 

51,280 

1,889 

20 

98,26S 

6S0 

92,637 

728 

65 

46,754 

2,061 

49,841 

1,980 

21 

92,588 

683 

91,914 

722 

66 

44,693 

2,128 

47,861 

2,070 

22 

91,905 

686 

91,192 

721 

67 

42,565 

2,191 

46,891 

2,158 

23 

91,219 

690 

90,471 

720 

68 

40,874 

2,246 

48,133 

2,248 

24 

90,529 

694 

89,751 

719 

69 

88,128 

2,291 

40,890 

2,321 

25 

89,835 

698 

89,032 

718 

70 

85,837 

2,827 

88,569 

2,891 

26 

89,187 

703 

88,814 

718 

71 

88,510 

2,851 

36,178 

2,448 

27 

88,434 

708 

87,596 

718 

72 

81,159 

2,862 

83,730 

2,487 

2S 

87,726 

714 

86,87S 

718 

78 

28,797 

2,858 

81,243 

2,505 

•   29 

87,012 

720 

86,160 

719 

74 

26,489 

2.339 

28,738 

2,501 

80 

86,292 

727 

85,441 

720 

75 

24.100 

2,303 

26,287 

2,476 

81 

85,565 

734 

84,721 

721 

76 

21,797 

2,249 

28,761 

2,481 

82 

84.831 

742 

84,000 

728 

77 

19,548 

2,179 

21,380 

2,869 

83 

84,089 

750 

83,277 

726 

78 

17,869 

2,092 

18,961 

2,291 

84 

83,339 

758 

82,551 

729 

79 

15,277 

1,987 

16,670 

2,196 

85 

82,5S1 

767 

81,822 

732 

80 

13,290 

1,866 

14,474 

2,091 

36 

81,814 

776 

81,090 

737 

81 

11,424 

1,730 

12,388 

1,864 

87 

81,038 

785 

80,353 

742 

82 

9,694 

1,582 

10,419 

1,818 

3S 

80,253 

795 

79,611 

749 

88 

8,112 

1,427 

8,608 

1.048 

89 

79,458 

805 

78,862 

756 

84 

6,685 

1,268 

6,955 

1,470 

40 

78,653 

815 

78,106 

765 

85 

5,417 

1,111 

5,485 

1,292 

41 

77.838 

826 

77,841 

774 

86 

4,306 

958 

4,198 

1,114 

42 

77;012 

&39 

76,567 

785 

87 

8,848 

811 

3,07'.' 

988 

43 

76,173 

857 

75,7S2 

797 

88 

2,537 

673 

2,140 

744 

44 

75.310 

881 

74,9S5 

812 

89 

1,864 

545 

1,402 

555 

45 

74.435 

909 

74.173 

828 

90, 

1,819 

427 

847 

885 

46 

18,52(1 

944 

73,345 

848 

91 

892 

822 

462 

246 

47 

72,584 

931 

72,4!>7 

870 

92 

570 

231 

216 

187 

48 

71,601 

1,021 

71.627 

896 

93 

339 

155 

79 

58 

49 

70,580 

1,068 

70,731 

927 

94 

184 

95 

21 

18 

50 

69,517 

1,108 

69,804 

962 

95 

89 

52 

3 

3 

51 

68,409 

1,156 

6S,842 

1,001 

96 

37 

24 

52 

67,253 

1,207 

67,841 

1.044 

97 

18 

9 

53 

66,046 

1,261 

66,797 

1,091 

98 

4 

8 

54 

64,7S5 

1,316 

65,700 

1,148 

99 

1 

1 

/ 


54  PRINCIPLES   OF  INSURANCE 

the  difference  in  the  mortality  rate  upon  which  the 
premiums  are  based. 

Such  a  mass  of  information  regarding  vitality  is 
being  collected  and  such  improvements  are  being 
made  in  collecting  vital  statistics,  that  we  may  ex- 
pect new  and  more  accurate  life  tables  to  be  supplied 
from  time  to  time.  Such  in  brief  is  the  history  of 
mortality  tables,  and  it  is  now  our  purpose  to  show 
in  a  general  way  how  the  tables  are  constructed  and 
to  describe  the  actual  experience  under  them. 

On  the  preceding  page  the  two  tables  of  mortality 
most  commonly  used  are  given,  and  the  reader  should 
familiarize  himself  with  their  contents.  Some  ex- 
planation of  the  tables  and  terms  used  in  connection 
with  them  may  be  given.  It  will  be  observed  that 
the  tables  contain  three  columns,  the  second  showing 
the  number  of  persons  living  at  each  age,  and  the 
third  the  number  dying  at  each  age. 

A  mortality  table  is,  therefore,  both  a  life  table  and 
a  death  table.  A  mortality  table  has  been  denned  as 
Methods  of  a  picture  of  a  generation  passing  through 
ooiBstraotinK    nf  e.     It  is  the  "  barometer  of  vital  statis- 

Mortahty 

Tables.  tics."     The  table  is  constructed  by  record- 

ing the  ages  of  as  great  a  number  of  persons  as 
possible  at  a  specified  time  and  then  tabulating  op- 
posite each  age  the  number  who  live  to  that  age,  the 
deaths  being  placed  opposite  the  ages  at  which  death 
occurred.  The  probability  of  death  at  a  particular 
age  is  obtained  by  dividing  the  number  of  deaths  at 


MORTALITY  TABLES  55 

that  age  by  the  number  living  at  that  age.  If,  then, 
the  number  living  at  the  age  at  which  the  table  be- 
gins is  multiplied  by  the  probability  of  dying  at  that 
age,  the  result  will  be  the  number  of  deaths.  Then, 
subtracting  this  result  from  the  number  living  at  the 
age,  the  number  of  survivors  is  obtained.  This  mul- 
tiplied by  the  probability  of  dying  in  the  next  year 
will  give  the  deaths,  and  so  the  calculations  are  con- 
tinued to  the  end  of  the  table.  Symbols  are  used  in 
the  calculations.  Age  is  represented  by  re,  the  num- 
ber reaching  the  age  by  Ix  ;  the  number  who  die  be- 
tween x  and  x  -f  1  is  represented  by  dx. 

If  we  could  have  a  large  number  of  persons  who 
were  born  on  a  certain  day  and  keep  them  under 
observation  until  all  had  died,  we  would  have  all  the 
above  data.  This  is  manifestly  impossible  ;  nor  is  it 
necessary  in  order  to  find  the  probabilities  of  death 
and  survival.  If  we  have  under  observation  a  large 
number  of  individuals  whose  age  is  known,  we  can, 
by  noting  the  age  at  death,  calculate  the  above  proba- 
bilities. In  the  first  place  we  must  calculate  the  prob- 
abilites  of  survival  and  death  for  each  year  of  life, 
and  the  first  step  in  doing  this  is  to  observe  the 
number  who  begin  any  year  of  life  and  the  number 
of  deaths  which  occur  during  that  year  ;  that  is,  dx 
divided  by  Ix  equals  qx,  the  probability  of  dying  dur- 
ing the  year ;  likewise  the  probability  of  living,  px 
equals  Ix  +  1  divided  by  Ix.  However,  in  the  above 
case  the  deaths  will  occur  at  different  times  through- 


56  PRINCIPLES   OF  INSURANCE 

out  the  year  ;  that  is,  some  will  die  just  beyond  age  x 
and  some  will  die  just  preceding  age  x  +  1.  If  we 
assume  the  deaths  to  be  equally  distributed  through- 
out the  year,  we  can  secure  the  arithmetical  mean  by 
calculating  the  number  who  live  to  the  middle  of  the 
year.  This  mean  population  is  called  Px.  If,  then, 
we  divide  this  average  population,  Px,  into  the  num- 
ber of  deaths  during  the  year,  that  is,  — -,  we  will 

Px 

have  the  rate  of  mortality  per  unit  of  population  for 
this  year,  that  is,  the  central  death  which  is  called 
mx.  From  this  central  death  rate  we  may  calculate 
the  probabilities  of  death  and  survival  in  the  follow- 
ing manner. 

We  have  already  seen  that  the  probability  of  a 
particular  event  happening  is  found  by  dividing  the 
number  of  possible  desired  happenings  by  the  total 
number  of  possible  happenings.  If  there  are  7  balls 
and  2  are  white,  the  probability  of  drawing  a  white 
ball  at  a  single  trial  is  f .     We  have  seen,  therefore, 

that  px  =  — - — -  and  qx  =  -^.     We  therefore  calcu- 
Ix  Ix 

late  px  and  qx  from  mx  by  the  following  simple 

formula :  —  , 

r,           dx 
Px 

_  Ix  4-  1  _  Ix  —  dx  2       2  —  mx 

Ix  Ix  -n     ,   dx      2  +  mx 

The  relation  between  the  probabilities  of  life  and  the 
rate  of  mortality  having  been  obtained  and  the  ratio 


MORTALITY  TABLES  57 

of  mx  for  all  ages  having  been  obtained  from  the  cen- 
sus returns,  the  value  of  px  can  be  obtained  from  the 
formula.  Thence  by  continued  multiplication  a  life 
table  can  be  constructed.  A  brief  application  may- 
be made  for  age  10  of  the  American  Experience  Table. 

G.  2-mx   .,       .  2 -.007490 

SinCG PX  =  2^Tx   theref°re **  =  2 +  .007490- 

which  equals  .992510;  the  yearly  probability  of  living, 
and  this  multiplied  by  the  original  100,000  at  age  10 
gives  99,251,  the  second  quantity  in  column  one  of 
the  Mortality  Table. 

We  have  assumed  in  the  preceding  statements  that 
the  population  and  the  deaths  at  each  age  were 
known,  but  such  is  not  usually  the  case  in  census 
statistics  which  generally  give  population  and  deaths 
in  groups  of  ages.  Even  if  it  were  so,  any  one  census 
year  might  be  so  affected  by  the  peculiar  conditions 
of  that  year,  that  it  would  produce  in-accurate  results. 
It  is,  therefore,  conducive  to  accuracy  to  take  the 
average  for  a  series  of  years  and  from  these  data  secure 
by  interpolation  the  annual  values.  The  mean  annual 
death  rate  for  a  series  of  years,  say  10,  is  calculated  as 
follows:  Cx  equals  the  death  rate  for  the  first  year  in 
population,  n,  and  <710  equals  the  death  rate  for  the 
tenth  year.  Therefore,  the  mean  annual  death  rate 
for  a  series  of  10  years  is  found  as  follows  :  — 

^=gi^i+g3wg+    .   •   -    +  e10ttio  _  di  +  c?2  +  .   .   .  dl0 
nx  +  n2  +    .   .   .    +  n10  nx  +  n2  +  .   .   .  ?i10 


58  PRINCIPLES   OF  INSURANCE 

It  is  next  necessary  to  find  the  total  lives  at  risk  for 
the  decade  or  quinquennial  period.  This  is  equal  to 
The  Lives  at  the  population  of  the  second  census  minus 
Risk-  the  population  of  the  first  census,  divided 

by  the  annual  increase  per  unit  of  the  population. 
After  having  obtained  the  mortality  for  the  group 
during  the  period  and  the  total  lives  at  risk  during 
the  period,  the  mortality  and  lives  at  risk  for  each 
year  of  the  period  must  be  calculated.  This  is  done 
by  interpolating  the  values  for  each  year,  by  the 
method  of  finite  differences,  or  by  the  graphic 
method.  Each  of  these  methods  is  of  little  value  to 
other  than  those  interested  in  actuarial  science. 

As  lias  before  been  intimated,  the  insurance  com- 
panies do  not  derive  the  mortality  tables  which  they 
now  use  from  the  population  statistics  of  the  general 
census,  but  from  the  experience  of  insurance  compan- 
ies. The  data  from  the  last-named  source  are  more 
accurate,  since  they  make  greater  efforts  to  secure 
the  correct  age  at  entry,  and  know  definitely  the  age 
at  death.  However,  the  principles  of  procedure  in 
using  the  data  are  the  same. 

The  phrase  "  expectation  of  life  "  needs  explanation 
at  this  point.  It  does  Qot  in  the  first  place  mean  the 
Expectation  number  of  years  one  can  reasonably  expect 
of  Life.  t0   live   after   a   certain   age.     It   simply 

means  the  number  of  years  that  individuals  of  a 
certain  class  live  on  an  average  after  a  certain  date. 
It  is  the  mean  after  lifetime.     It  would,  for  example, 


MORTALITY   TABLES  59 

be  erroneous  for  a  person  at  age  40,  when  the  expecta- 
tion of  life  is  28.18  years  by  the  American  Mortality 
Table,  to  conclude  that  his  probable  age  at  death 
would  be  68.18  years,  for  the  most  probable  time 
of  death  is  that  year  beyond  40  when  most  deaths 
occur. 

Another  term  frequently  used  is  "  the  probable  life- 
time," which  is  simply  the  number  of  years  that  an 
individual  has  an  even  chance  of  living.  TheProba- 
It  is  found  by  observing  at  what  age  ble  Lifetime, 
beyond  the  specified  age  the  number  then  living  is 
reduced  one  half.  For  example,  the  number  living 
at  age  30  is  by  the  American  table  85,441.  At  age 
68  there  are  living  43,133,  and  40,890  are  living  at 
age  69.  Therefore,  the  probable  lifetime  of  a  person 
at  age  30  is  between  38  and  39  years,  which  is  over 
three  years  greater  than  the  expectation  of  life  at  age 
30. 

Even  after  a  rate  of  mortality  has  been  found, 
either  from  general  population  statistics  or  from  the 
experience  of  insured  lives,  the  actual  mortality  of 
the  insured  group  does  not  usually  correspond  to  this 
rate  in  any  single  year.  It  has  been  particularly 
difficult  to  derive  a  table  in  which  the  actual  mor- 
tality closely  corresponded  to  the  calculated  mortality 
in  very  early  and  very  late  life.  This  in  no  sense 
invalidates  that  general  law  of  mortality  which  is 
expressed  in  the  mortality  tables.  These  tables  have 
been  graduated,  by  which  the  accidental  irregularities 


60  PRINCIPLES   OF  INSURANCE 

are  smoothed  out.  The  important  practical  consider- 
ation of  this  fact  is  expressed  in  the  questions,  how 
many  lives  need  a  company  insure  in  order  to  secure 
these  average  results  of  a  mortality  table,  how  wide  a 
fluctuation  can  be  permitted,  and  how  can  it  improve 
the  personnel  of  its  membership  in  order  that  it  may 
continue  a  solvent  concern  ?  If  it  is  to  be  called 
upon  to  pay  a  larger  number  of  claims  before  it  had 
calculated  that  they  would  fall  due,  it  may  fail,  both 
because  the  principle  sum  already  collected  will 
probably  prove  insufficient  and  in  addition  the  force 
of  compound  interest  has  not  had  time  to  produce  its 
contribution  to  the  resources  of  the  company. 

The  first  problem,   that  of  the   number  of   lives 
necessary  to  be  insured  in  order  that  the  actual  num- 

om.  „t  •.  ber  of  claims  by  death  may  be  confined 
The  Number  J  J 

of  Lives  to  be  within  certain  limits  of  the  expected  is 
solved  as  follows  :  If  the  probability  of  an 
event  occurring  at  a  single  trial  is  c?,  it  will  probably 
happen  in  m  trials  dm  times.  It  has  been  proven  that 
the  probable  magnitude  of  the  deviations  from  dm  can 

be  expressed  by  the  following  formula: — \—mdp 

7T 

in  which  7r  equals  3.14159,  m  the  number  of  trials  or 
lives  under  observation,  p  the  chance  of  surviving 
one  year  at  the  given  age,  and-c?  the  probability  of 
dying  during  the  year.  An  application  may  be  thus 
made.  In  the  American  table  assume  there  are 
20,000  lives  at  risk  at  age  41,  where  d  is  .01,  the 


MORTALITY   TABLES  61 

expected  percentage  of  survivals  being  therefore 
.99.  The  probable  extent  to  which  the  actual  re- 
sult would  differ  from  this  is  obtained  from  the 
formula  thus  :  — 


4, 


20000  x  .01  x  .99, 


3.1416 

which  equals  11.2.  That  is  to  say,  the  deviation  of 
deaths  from  the  expected  200  would  probably  be 
11.2,  the  experienced  mortality  varying  between 
189  and  211.  Equally  simple  is  the  problem  of 
calculating  the  number  necessary  to  be  under  ob- 
servation in  order  to  keep-  the  actual  experience 
within  a  certain  percentage  of  the  expected. 

The  reader  must  have  realized  that  a  number  suf- 
ficient to  display  average  results  must  be  secured. 
Insurance  deals  with  the  law  of  average  as  applied 
to  a  considerable  group.  It  would  be  absurd  to  at- 
tempt to  conduct  the  business  with  a  score  or  more 
of  members,  and  doubly  absurd  if  they  were  of  the 
same  age,  sex,  and  occupations.  In  actual  practice 
the  companies  expect  to  have  a  favorable  mortality 
experience  ;  that  is,  they  make  such  calculations  and 
allowances  as  they  think  will  procure  for  them  an 
actual  mortality  well  below  that  shown  by  the  table 
for  the  respective  ages  and  groups.  From  this  source 
come  what  are  called  mortality  savings.  In  com- 
panies writing  policies,  the  holders  of  which  receive 
dividends  based  on  the  earnings  of  the  companies, 
this  saving  is  one  of  the  sources  of  the  fund  from 


62  PRINCIPLES   OF  INSURANCE 

which  dividends  are  paid.  These  dividends,  as  we 
shall  later  see,  are  not  dividends  in  the  ordinary 
sense  in  which  this  word  is  used,  but  are,  so  far  as 
this  mortality  savings  is  concerned,  simply  the  re- 
turn of  overcharges.  The  difference  between  the 
expected  mortality  on  the  net  amount  at  risk  and 
the  actual  mortality  less  the  reserve  thereon  is  the 
mortality  saving.  In  determining  the  expected  mor- 
tality for  a  given  calendar  year,  the  old  business  is 
assumed  to  be  exposed  for  the  full  calendar  year ; 
the  new  issues  of  business  of  the  calendar  year  are 
assumed  to  be  exposed  on  an  average  for  only  one 
half  the  year ;  the  cancellations  of  the  old  business 
are  assumed  to  be  exposed  for  one  half  the  year  ;  and 
the  cancellations  of  the  new  business  are  assumed  to 
be  exposed  for  one  fourth  of  the  year. 

Statistics  for  the  past  ten  years  of  the  ordinary 
legal  reserve  and  the  legal  reserve  industrial  com- 
panies show  the  following  facts.  In  the  case  of 
thirty-two  of  the  most  important  ordinary  legal  re- 
serve companies  the  average  mortality  was  75.43  per 
cent  of  the  expected,  varying,  however,  from  52.24  per 
cent  to  92.52  per  cent.  Thirteen  of  these  thirty-two 
companies  experienced  a  mortality  saving  of  over  30 
per  cent.  In  the  three  leading  industrial  companies 
the  average  for  the  past  ten  years  of  the  actual  to 
the  expected  mortality  was  104.05  per  cent.  Only 
one  of  these  companies,  and  this  the  least  important, 
had  an  actual  experience  below  the  expected.      In 


MORTALITY   TABLES 


the  fifty  leading  ordinary  companies  the  percentage 
of  the  actual  to  the  experienced  mortality  in  1909 
was  72.16  per  cent. 


REFERENCES 

Newsholme,   A.      Vital   Statistics.      Chaps.    XXII,   XXIII, 
XXIV,  XXV. 

Yale  Readings.     Vol.  I,  Chap.  VIII. 

Graham,  W.  J.     Romance  of  Life  Insurance.     Chap.  VII. 

Dawson,  Miles  M.    The  Business  of  Life  Insurance.    Chap.  II. 
Practical  Lessons  in  Actuarial  Science. 

Reports   of  the  Twelfth  Census.     Parts  I,  II.     Mortality  Sta- 
tistics, 1909. 

Report  on  National  Vitality.     Parts  I,  II  of  Vol.  III. 

Senate  Document  No.  676,  Sixtieth  Congress,  Second  Ses- 
sion. 

Farr,  William.     Vital  Statistics.     Part  V,  pp.  443-494. 

The  Principles  and  Practice  of  Life  Insurance.     Seventh  Edi- 
tion.    Published  by  the  Spectator  Company. 

Bowley,  A.  G.     Elements  of  Statistics.  Second  Edition.    Part  I, 
Chaps.  V,  VII,  X.     Part  II. 

Institute  of  Actuaries'  Text  Book.     Part  II. 

Proceedings  of  the  International  Congress  of  Actuaries. 

Proceedings  of  the  Actuarial  Society  of  America. 


CHAPTER   IV 

THE   SELECTION   OF   LIVES 

The  description  given  in  the  preceding  chapter  of 
the  principles  underlying  the  mortality  of  lives  and 
the  facts  which  the  experience  of  insurance  has  dis- 
closed might  lead  the  reader  to  conclude  that  the 
actual  conduct  of  insuring  lives  is  very  simple. 
However,  the  first  problem  which  confronts  the 
officials  of  an  insurance  company  is  that  of  securing 
a  body  of  individuals  whose  life  experience  as  insured 
persons  will  be  in  harmony  with  the  principles  which 
have  been  discussed  in  connection  with  the  mortality 
table.  Great  care  must  be  continually  exercised  in 
insuring  lives  in  order  that  the  actual  experience 
will  be  within  reasonable  limits  of  the  calculated. 
It  is  even  more  true  of  the  insurance  business  than 
of  other  kinds  of  business  that  it  should  be  able  to 
be  conducted  on  the  plans  laid  down  before  entering 
upon  the  actual  business.  In  almost  every  business 
adjustments  can  be  made  from  time  to  time  to  bring 
the  original  plan  in  harmony  with  unexpected  changes 
in  the  nature  of  the  business ;  but  in  insurance  the 
contracts  are  not  only  made  for  long  periods,  but  also 
with  great  numbers  of  individuals.  Therefore,  ad- 
justments can  be  made  only  with  great  difficulty. 

64 


THE  SELECTION  OF  LIVES  65 

The  first  problem,  then,  in  placing  the  principles  of 
insurance  into  practice  is  to  select  suitable  lives  for 
insurance.  By  selection  is  ordinarily  selection 
meant  that  examination  of  applicants  by  Defined- 
competent  physicians  in  order  to  exclude  all  whose 
present  or  prospective  physical  conditions  or  mental 
characteristics  are  below  the  standard  required  by 
the  insurance  societ}'.  This  medical  examination  is, 
then,  one  of  the  methods  devised  to  prevent  adverse 
selection,  that  is,  the  conscious  or  unconscious  at- 
tempt to  secure  insurance  by  persons  who  are  unde- 
sirable risks.  Another  method  used  by  the  company 
to  prevent  adverse  selection  is  the  incorporation  of 
certain  protective  clauses  in  the  contract,  such,  for 
example,  as  the  suicide  clause  which  frees  the  com- 
pany from  liability  if  the  insured  commits  suicide 
within  a  certain  period,  usually  one  or  two  years. 
Adverse  selection  is  again  illustrated  in  the  tendency 
of  individual  poor  risks  to  select  the  cheaper  plans 
of  insurance,  and  again  in  the  case  of  those  seeking 
to  defraud  the  company.  Anything  which  adversely 
affects  the  company's  interest  in  so  far  as  it  is  inter- 
ested in  securing  a  group  of  individuals  who  will 
experience  the  normal  experience  is  adverse  selection. 
That  is  to  say,  the  effort  on  the  part  of  the  company 
is  to  secure  a  group  of  persons  who  will  have  equal 
chances  of  risk  and  benefit  from  insurance. 

The  lives  thus  chosen  by  the  company  through  its 
agents,  who  are  supposed  to  exercise  good  judgment 


66  PRINCIPLES   OF  INSURANCE 

in  soliciting  applicants,  and  the  medical  examiners, 
who  carefully  examine  them,  are  called  select  lives. 
It  has  been  found  from  long  experience  in  insuring 
lives  that  the  rate  of  mortality  among  the  recently 
insured  is  lower  than  among  the. general  population 
or  among  a  noninsured  group  of  equal  ages  which 
has  healthy  and  unhealthy  individuals  among  it. 
Not  only  is  this  true,  but  it  has  been  found  that  an 
insured  group  recently  selected  has  a  lower  mortal- 
ity rate  than  a  group  of  insured  lives  of  equal  age 
but  of  longer  duration  of  insurance.  For  example, 
1000  individuals  insured  at  30  years  of  age  would 
show  for  a  period  of  about  five  years  thereafter  a 
lower  mortality  than  the  mortality  shown  for  the 
next  five   years  of  1000   individuals,  insured  at  25 

years  of  age,  but  now  30.  This  temporary 
Selection       advantage  to  the  company  is  called  the 

benefit  of  selection.  This  advantage  en- 
ables a  company  to  use  as  expenses  or  as  dividends, 
which  may  be  used  to  reduce  the  premiums,  the  funds 
thus  saved,  since  this  selection  means  the  actual  losses 
will  be  below  the  calculated.  It  is  the  experience 
after  five  years  which  is  used  as  a  basis  for  operating 
the  company.  This  favorable  mortality  on  recently 
insured  lives  also  explains  why  newly  formed  com- 
panies or  companies  which  are  increasing  their  num- 
bers rapidly  have  frequently  such  a  low  percentage 
of  actual  to  expected  mortality. 

The  explanation  of  the  causes  of  this  lower  mortal- 


THE  SELECTION  OF  LIVES 


67 


ity  among  recently  insured  lives  is  largely  in  the 
fact  that  chronic  diseases  have  not  had  time  to  de- 
velop and  produce  their  results.  The  deaths  are 
chiefly  due  to  accidents  and  to  those  acute  diseases 
which  rapidly  produce  death.  Then,  too,  acute 
diseases  developing  in  the  early  period  often  become 
chronic  with  fatal  results  at  a  later  period.  The  rate 
of  mortality,  then,  among  insured  lives  is,  all  other 
things  being  equal,  a  result  of  the  age  at  entry  and 
the  duration  of  membership.  The  following  table 
adapted  from  Young's  Insurance  clearly  illustrates 
the  above  facts  regarding  the  mortality  at  different 
ages  and  different  duration  of  insurance. 

Annual  Mortality  Rate  per  1000  in  Periods  op 
Insurance 


Ages  in 

quinquennial 

groups. 

Under  5 
years  duration. 

5  years  and 
upwards. 

Under  10 
years  duration. 

10  years  and 
upwards. 

Total 
period 
of  life. 

25-29 
35-39 
45-49 
55-59 
65-69 

6.60 

8.30 

11.70 

18.10 

36.30 

10. 

11. 

14.40 
24.70 
50.60 

7.30 
9.30 

12.50 

21. 

43.50 

9.20 

11.70 
15.20 
25.20 
51.10 

7.30 

9.70 

13.60 

23.50 

49. 

The  rate  of  mortality  for  those  who  have  not  been 
insured  five  years,  column  2,  is  less  than  those  who 
have  been  insured  less  than  ten  years,  column  4,  and 
still  less  than  those  insured  for  more  than  ten  years, 


68  PRINCIPLES   OP  INSURANCE 

column  5.  A  study  of  this  table  will  disclose  addi- 
tional important  facts  regarding  the  effect  of  introduc- 
ing new  lives  in  the  different  quinquennial  periods. 

The  annual  rate  of  mortality  at  any  age  is  found, 
as  we  have  shown  in  the  previous  chapter,  by  divid- 
ing the  number  of  deaths  occuring  in  the  year  fol- 
lowing this  age  by  the  number  of  thousands  exposed 
to  death  at  the  beginning  of  the  year. 

Many  adherents  to  the  assessment  plan  of  insur- 
ance have  depended  upon  the  introduction  of  new 
blood  to  keep  down  the  increasing  death 

Effect  of  In-  r  ° 

troducing  rate.  It  will  be  observed,  however,  that 
the  benefits  are  of  a  decreasing  character 
as  the  original  group  becomes  older,  for  the  new 
entrants  at  the  older  ages  make  up  such  a  small  part 
of  the  whole  mass  of  lives  at  the  increasing  age. 
The  older  ages  are  accumulating  at  a  geometrical 
ratio,  and  the  number  of  new  lives  necessary  to  keep 
the  mortality  experience  down  to  that  of  the  earlier 
ages  would  have  to  be  very  great ;  so  great,  in  fact, 
that  in  actual  experience  no  company  on  the  assess- 
ment plan  has  been  able  to  secure  sufficient  numbers 
to  keep  its  mortality  experience  to  that  of  the  earlier 
years.  It  is  not  to  be  understood,  however,  that  the 
entrance  of  young  lives  does  not  favorably  affect  the 
mortality,  but  rather  that  this  method  cannot  be 
relied  upon  to  correct  the  errors  of  unscientific  plans 
of  pure  assessment  insurance.  It  must  also  be  evi- 
dent to  the  reader  that  if  lives  were  insured  on  the 


THE  SELECTION  OF  LIVES  69 

basis  of  mortality  tables  constructed  on  the  experi- 
ence of  insured  groups  at  different  ages,  the  indi- 
vidual who  insured  at  an  advanced  age  would  pay 
relatively  a  larger  premium  than  those  who  insured 
earlier  in  life.  That  is  to  say,  the  benefit  of  selection 
is  less  at  advanced  ages  than  at  earlier  ages.  The 
premium  for  young  lives  is  established  on  the  ex- 
pectation that  there  will  be  a  continual  infusion  of 
new  blood  and  these  young  lives  thus  receive 
through  many  years  the  benefit  of  selection  from 
many  groups. 

There  is  another  kind  of  selection  in  insurance 
which  may  be  called  self-selection,  that  is  to  say,  a 
selection  not  made  by  the  insurer,  but  by  seif-seiec- 
the  insured.  This  has  been  instanced  in  tion- 
the  case  of  an  applicant  selecting  particular  forms  of 
policies.  If  it  is  a  poor  risk  and  the  applicant  is 
conscious  of  his  impaired  life,  he  is  likely  to  select 
the  policies  with  low  premiums.  If  he  intends  to 
defraud  the  company,  he  will  make  the  same  selec- 
tion. It  is,  therefore,  necessary  for  the  company  to 
make  its  selections  as  accurate  as  possible ;  that  is,  it 
must  require  medical  examination,  and  take  precau- 
tions to  discover  the  true  facts  about  the  applicant. 
It  is  true,  indeed,  that'  in  certain  forms  of  compulsory 
insurance  of  foreign  countries  for  the  wage  earners 
no  medical  examination  is  made,  but  in  these  cases 
the  insurance  is  required  of  all  members  of  the  group, 
and  since  the  group  is  homogenous  to  a  large  degree, 


70  PRINCIPLES   OF  INSURANCE 

selection  has  already  been  made.     Average  results 
are  for  these  two  reasons  secured. 

In  the  early  history  of  insurance  there  was  no 
medical  examination,  but  this  did  not  imply  that 
™   ,,  .,    ,   there  was   no   selection.     No  evil  conse- 

The  Medical 

Examina-  quences  were  experienced  from  this  ab- 
sence of  a  medical  examination,  for  the 
applicant  was  recommended  to  the  company  by  a 
responsible  person.  He  was  often  questioned  by  the 
officials  of  the  company  as  to  his  physical  condition ; 
insurance  was  in  general  taken  out  only  by  the  better 
classes ;  competition  for  business  was  not  very  ex- 
treme ;  and  lastly  the  mortality  tables  used  had  a  wide 
margin  of  safety.  The  actual  process  of  selection 
now  made  by  an  insurance  company  is  usually  as 
follows :  The  agent  seeks  the  applicant,  who  may 
be  asked  to  answer  certain  questions  regarding  his 
physical  condition  and  family  history.  If  the  facts 
disclosed  by  these  answers  are  decidedly  unfavor- 
able, that  is,  if  he  is  ill  or  has  recently  been  ill  or 
belongs  to  a  family  which  has  had  numerous  mem- 
bers who  have  been  afflicted  with  certain  very  fatal 
diseases,  such  as  tuberculosis,  the  applicant  is  not 
sent  to  the  medical  examiner ;  otherwise,  he  is.  The 
latter  asks  him  more  detailed  questions  regarding 
his  physical  history  and  that  of  his  family,  and  in 
addition  makes  a  thorough  physical  examination. 
Efforts  are  also  made  to  secure  information  as  to 
the  use  of  alcohol  and  narcotics.     The  medical  ex- 


THE   SELECTION  OF  LIVES  71 

aminer  makes  a  complete  report  of  his  findings  to 
the  medical  department  of  the  company  at  the  home 
office.  Efforts  may  also  be  made  by  the  company 
through  independent  inquiries  and  references  sup- 
plied by  the  applicant  to  discover  the  personal  habits 
of  the  applicant,  his  financial  responsibility,  and  other 
facts  which  will  supply  information  to  decide  the 
desirability  of  the  risk. 

The  mortality  table  assumes  that  all  members  of 
the  company  enter  it  in  good  physical  condition,  and 
premiums  are  based  on  this  assumption.  It  is  the 
duty  of  the  medical  department  to  make  the  actual 
facts  correspond  to  the  assumed  facts.  If  all  the  in- 
formation elicited  is  satisfactory,  a  policy  is  granted. 
If  the  amount  applied  for  exceeds  the  limit  fixed  by 
the  company  on  a  single  life,  the  company  may  accept 
the  application  and  reinsure  a  part  of  the  risk  in 
another  company.  That  is,  it  takes  out  a  policy  pay- 
able to  itself  in  another  company  for  the  amount  in 
excess  of  what  it  cares  to  insure  a  single  life. 

A  convenient  classification  of   risk  for  purposes 
of  discussion,  but  one  which  has  no  legal  ciassifica- 
sanction  in  the  case  of  ordinary  insurance  tion  of  Risks, 
companies,  is  as  follows  :  — 

(a)  Preferred  risks.  These  are  risks  which  when 
not  affected  by  the  occupation  are  insurable  under 
any  plan  of  insurance.  The  individuals  composing 
this  class  have  good  physical  conditions,  weight  and 
height  within  the  standard  established,  correct  habits, 


72  PRINCIPLES  OF  INSURANCE 

good  family  history,  which  means  a  low  mortality 
under  70  and  freedom  from  constitutional  and  heredi- 
tary diseases. 

(5)  Ordinary  risks.  These  applicants  are  fre- 
quently required  to  take  that  form  of  policy  which 
will  bring  the  premium  paying  period  within  75  per 
cent  of  the  life  expectation.  This  is  done  in  order  that 
the  possible  large  claims  due  to  a  high  mortality  will  not 
overbalance  the  sums  paid  in  by  this  class  and  the  ac- 
cumulations on  it.  Individual  members  of  this  class 
must  be  in  first-class  physical  condition  when  insured, 
but  there  may  be  a  tendency  in  the  family  to  certain 
diseases ;  they  may  be  persons  who  have  lost  a  limb, 
persons  of  mixed  races;  persons  who  have  had  re- 
mote attacks  of  such  diseases  as  asthma,  inflammatory 
rheumatism,  pneumonia,  and  in  some  cases  blood- 
spitting,  if  not  recent,  provided  the  family  history  is 
good.  The  preferred  and  ordinary  risks  include  the 
vast  majority  of  insured  lives,  and  it  is  these  classes 
upon  which  insurance  calculations  are  chiefly  made. 

(e)  Doubtful  risks.  This  class  includes  a  great 
number  of  individuals  and  for  a  great  many  various 
reasons.  One  of  the  most  important  classes  is  over- 
weights and  another  underweights  ;  another  class  is 
those  who  are  addicted  to  the  use  of  alcohol  or  nar- 
cotics, although  if  the  amount  used  of  either  is  in  ex- 
cess of  a  certain  quantity,  such  persons  will  not  be  ac- 
cepted as  risks  on  any  plan  of  insurance.  It  is  not 
only  because  the  use  of  alcohol  and  narcotics  under- 


THE  SELECTION  OF  LIVES  73 

mine  the  physical  constitution,  thus  making  the  indi- 
vidual more  subject  to  disease  and  less  able  to  resist 
its  attacks,  but  also  because  to  such  individuals  fatal 
accidents  are  more  likely  to  happen  at  those  times 
when  reason  is  dethroned  on  account  of  the  excessive 
use  of  the  alcohol  or  the  narcotic.  In  other  words  it 
is  a  question  to  what  extent  the  shorter  duration  of 
life  of  those  who  use  alcohol  is  due  to  the  destruc- 
tive effects  of  the  alcohol  and  to  what  extent  it  is  due 
to  their  careless  mode  of  living  of  which  the  use  of  al- 
cohol is  the  tangible  evidence.  Underweights  and 
overweights  ordinarily  demand  special  treatment. 
The  companies  use  a  comparative  table  of  height  and 
weight.  For  example,  applicants  5  feet  10  inches  in 
height  between  30  and  39  should  weigh  by  the  table 
between  134  and  200  pounds,  the  normal  weight 
being  167,  which  thus  makes  a  provision  for  a  devia- 
tion of  about  20  per  cent.  However,  if  it  can  be 
shown  that  the  abnormal  weight  is  a  family  charac- 
teristic, the  variation  is  of  little  importance,  all 
other  things  being  equal. 

One    authority   gives    the    following   reasons   for 
underweights  being  poor  risks  :  — 

(a)  They  are  abnormal  and  die  short  of  their  expec- 
tation. 

(b)  They  are  prone  to  tuberculosis  and  nervous  dis- 
eases. 

(c)  They  are  frequently  underfed  and  overworked 
and  suffer  from  dyspepsia  and  indigestion. 


74  PRINCIPLES  OF  INSURANCE 

The  overweights  are  poor  risks  because  :  — 

(a)  They  are  abnormal. 

(5)  They  are  prone  to  develop  heart  disease,  apo- 
plexy, and  premature  arteris  scelorosis,  diabetes,  rheu- 
matism, and  gout. 

(V)  They  frequently  take  little  exercise,  eat  heartily, 
and  are  often  intemperate  in  their  use  of  malt  liquors. 

(c?)  They  frequently  succumb  to  accidents  and  sur- 
gical operations. 

Companies  very  often  grant  to  young  applicants 
who  show  underweight  or  overweight  a  form  of  policy 
which  matures  before  the  serious  evil  effects  of  this 
abnormal  weight  shows  itself,  such,  for  example,  as  a 
twenty-year  endowment  policy  at  age  25  which  is 
completed  at  age  45.  They  thus  are  treated  as  stand- 
ard lives.  In  other  cases  particular  forms  of  a 
policy  have  been  granted  to  the  applicant  of  abnor- 
mal weight  with  the  restriction  as  to  certain  benefits 
which  ordinarily  are  a  part  of  the  contract.  Some- 
times these  applicants  are  permitted  to  receive  par- 
ticipating policies  only  on  deferred  dividend  plans  of 
5  or  10  years  or  on  a  longer  period  of  distribution,  but 
not  annual  dividends.  Sometimes  they  are  granted 
only  paid  up  insurance  instead  of  extended  insurance 
in  case  they  lapse  their  policies.  Other  methods  of 
treating  substandard  lives  will  be  discussed  later. 

Other  factors  which  determine  the  class  to  which 
a  particular  risk  belongs  are  occupation,  sex,  race, 
regions  inhabited,  family  history,  mental  and  moral 


THE  SELECTION  OF  LIVES  75 

characteristics,  and  each  of  these  calls  for  a  brief  dis- 
cussion. 

The  character  of  the  occupation  is  important  in  that 
it  may  be  extra  hazardous  as  to  accidents  or  it  may 
be  unhealthy.  It  may  be  stated  at  this  occupation 
point  that  the  occupation  statistics  as  to  Mortality, 
morbidity  and  mortality  are  very  incomplete  and  in- 
accurate. We  doubtless  ascribe  to  certain  occupa- 
tions a  degree  of  danger,  both  as  to  accidents  and 
unhealthfulness,  which  they  really  do  not  have.  For 
example,  there  are  certain  occupations  which  are  the 
refuge  of  the  aged  and  manifestly  the  death  rate  is 
high,  but  it  does  not  follow  that  the  high  death  rate  is 
to  be  ascribed  to  the  character  of  the  occupation.  It 
is  never  safe  to  make  any  deductions  of  the  vital  sta- 
tistics of  occupations  until  one  knows  the  age  and  sex 
composition  of  the  individuals  employed  in  the  occu- 
pation. Nevertheless,  it  is  the  practice  of  insurance 
companies  to  classify  occupations  as  to  their  hazard. 
For  example,  an  aeronaut  or  a  submarine  diver  will 
not  be  insured  by  many  companies  and  by  practically 
none,  except  at  a  very  high  premium  ;  the  occupation 
of  a  railroad  engineer  is  more  hazardous  than  that  of 
a  bank  clerk  ;  that  of  a  soldier  more  hazardous  than 
that  of  a  farmer.  That  is  to  say,  extra  premiums 
may  be  charged  for  extra  risks.  But  the  general 
practice  is  to  permit  a  change  of  occupation  after  in- 
surance is  granted  without  any  change  in  the  pre- 
mium.    This  is  due  in  part  to  a  better  knowledge  of 


76  PRINCIPLES   OF  INSURANCE 

the  real  difference  in  the  hazards  of  different  occupa- 
tions and  especially  to  the  competition  among  companies 
to  make  their  policies  attractive  to  prospective  buyers 
by  a  liberalization  of  the  contract  through  taking  off 
many  former  restrictions. 

As  to  sexes  it  may  be  said  that  women  as  a  class 
show  a  lower  death  rate,  especially  in  the  later  years 
Sex  Mor-  than  men  do.  This  is  the  reverse  of  what 
taiity.  js  £rue  in  the  experience  of  insured  males 

and  females.  The  statistics  of  insured  women  seem 
to  indicate  a  higher  mortality  for  married  women  dur- 
ing the  childbearing  period  than  for  men  or  unmarried 
women  of  the  same  age.  The  practice  of  companies 
in  insuring  women  is  not  uniform.  Some  accept  wo- 
men at  all  ages  on  the  same  terms  as  men.  Some  re- 
quire an  extra  premium ;  some  accept  them  after  the 
childbearing  age  has  passed  ;  many  accept  them  only 
when  they  are  self-supporting  in  order  that  there  may 
be  no  question  as  to  the  insurable  interest  in  their  life. 
With  the  growing  freedom  of  the  sex,  doubtless  there 
will  be  more  demands  from  women  for  insurance  on 
the  same  terms  as  men.  It  is  urged  that  there  is  more 
of  a  hazard  in  the  case  of  women  than  in  the  case  of 
men  for  the  reasons  that :  (  a  )  there  is  more  of  a  ten- 
dency on  the  part  of  women  to  understate  age  in  the 
early  years  ;  (  b  )  that  a  certain  delicacy  on  the  part 
of  women,  as  well  as  the  medical  examiner,  prevents  as 
thorough  a  medical  examination  as  in  case  of  men  ; 
(c)  that  childbearing  introduces  an  extra  hazardous 


THE  SELECTION  OF  LIVES 


factor ;  (  d)  that  the  possession  of  dependent  children 
also  may  bring  in  the  question  of  moral  hazard  in  the 
case  of  the  widow  who  is  anxious  to  secure  protection 
for  her  children  in  case  of  her  death. 

Sex  mortality  for  all  ages  is  indicated  in  the  fol- 
lowing table,  taken  from  Newsholmn's  Vital  Statis- 
tics and  referring  to  the  population  of  England  during 
1891-1895. 

Mean  Annual  Rate  op  Mortality  per  1,000  op 
Each  Sex 


MALE8. 

Fbmales. 

Under  5 

62.1 

52. 

5-10 

4.5 

4.5 

10-15 

2.5 

2.7 

15-20 

4.0 

4.0 

20-25 

5.3 

4.9 

25-30 

7.2 

6.7 

35-45 

12.2 

10.3 

45-55 

19.8 

15.3 

55-65 

36.3 

29.8 

65-75 

71.9 

62.8 

75-85 

149.9 

136.1 

85  and  up. 

290.6 

263.8 

It  will  be  observed  that  this  table  indicates  an  es- 
pecially favorable  mortality  for  females  in  later  life. 
The  problem  of  adjusting  the  premium  for  the  hazard 
of  childbearing  is  not  difficult.  Knowing  the  mor- 
tality due  to  childbirth,  the  extra  premium  may  be 
readily  calculated. 


78  PRINCIPLES   OF  INSURANCE 

The  hazard  due  to  races  can  be  determined  with 
increasing  accuracy  as  the  vital  statistics  of  races  be- 
Race  Mor-  comes  more  accurate.  In  the  United  States 
ta^ty-  the  vital  statistics  of  the  registration  area 

show  a  higher  mortality  among  negroes  than  among 
whites.  The  causes  for  this  condition  are  too  well 
known  to  need  description.  The  greater  ignorance 
of  the  negro  race,  not  only  as  to  sanitary  living,  but 
also  as  to  their  correct  age  adds  another  element  to 
the  normal  hazard.  Some  companies  practically  re- 
fuse to  accept  negroes.  This  is  done  in  various  ways, 
such,  for  example,  as  not  giving  the  agent  any  com- 
mission for  writing  the  policy  ;  others  discriminate 
against  them  in  the  examination.  Many  states  en- 
acted laws  after  the  Civil  War  requiring  companies 
to  accept  negroes  on  the  same  basis  as  whites  in  the 
belief  that  they  were  thereby  enforcing  the  spirit  of 
the  fourteenth  amendment,  but  in  practice  such  laws 
can  easily  be  evaded. 

The  hazard  connected  with  regions  becomes  im- 
portant in  conjunction  with  or  without  the  race 
Regional  hazard.  Some  companies  solicit  insurance 
Mortality.  ou\y  m  certain  states  on  the  principle  that 
the  mortality  rate  is  lower  in  some  states  than  in 
others.  Care  must  also  be  exercised  in  thus  ascrib- 
ing unhealthiness  to  certain  regions  without  knowing 
the  age  composition  of  the  inhabitants  of  the  region. 
All  other  things  being  equal  the  death  rate  will  be 
lower  in  newer  regions  than  in  long  settled  regions. 


THE  SELECTION  OF  LIVES  79 

This  is  due  to  the  fact  that  the  inhabitants  of  a  new- 
region  are  a  vigorous  class  with  a  lower  average 
age.  Few  of  the  insurance  companies  solicit  busi- 
ness outside  of  the  United  States,  and  many  of  them 
have  required  until  the  last  few  years  an  extra  pre- 
mium for  residence  or  travel  in  the  tropics  or  polar 
regions. 

The  refusal  of  companies  to  insure  lives  in  certain 
regions  may  be  due  to  the  unhealthful  climate,  to  the 
absence  of  definite  knowledge  concerning  the  condi- 
tions of  life  in  the  region,  to  a  difference  in  social 
ideas  of  the  regions,  or  to  the  particular  legal  require- 
ments. It  is  not  infrequent,  for  example,  to  have  a 
company  cease  writing  insurance  in  a  state  on  ac- 
count of  some  particular  legal  requirement  which 
the  officials  of  the  company  consider  unduly  burden- 
some. The  hazard  due  to  inheritance  or  family  his- 
tory is,  to  a  certain  degree,  of  decreasing  practical 
importance.  With  the  advance  of  the  medical  sci- 
ence we  are  coming  to  realize  that  many  diseases 
formerly  considered  as  inherited  are  not  of  this  de- 
scription. Moreover,  even  though  there  is  a  tendency 
to  acquire  certain  diseases  on  account  of  the  inherited 
physical  constitution,  care  and  attention  to  living  in 
early  life  often  prevents  any  fatal  consequences.  In 
the  past  it  was  the  practice  in  collecting  mortality 
statistics  to  ignore  all  that  precedes  death,  such,  for 
example,  as  the  cause  of  death  and  duration  of  illness. 
Tli is  even  yet  is  largely  the  practice.     As  a  conse- 


80  PRINCIPLES   OF  INSURANCE 

quence  the  prevalence   of   most   diseases   cannot  be 
accurately  known. 

It  is  always  fallacious  to  assume  any  fixed  ratio 
between  morbidity  and  mortality.  A  certain  disease 
„  ^-x-      is  said  to  be  twice  as  fatal  as  another,  but 

Morbidity 

and  Mor-  this  is  not  an  accurate  statement,  as  it  is 
ordinarily  made,  since  in  the  same  disease 
the  number  of  cases  of  sickness  and  death  vary  at 
different  times  and  with  various  classes.  The  high- 
est ratio  of  sickness  is  often  found  with  the  lowest 
number  of  fatalities,  as,  for  example,  in  the  case  of 
mumps.  Then,  too,  vital  statistics  do  not  accurately 
inform  us  as  to  the  amount  of  sickness  and  from  the 
viewpoint  of  insurance  as  an  economic  and  social 
institution,  sickness  is  much  more  important  than 
death. 

The  mental  and  moral  characteristics  may  be  dis- 
cussed under  the  head  of  the  moral  hazard.  The 
The  Moral  moral  hazard  has  been  denned  as  that  ele- 
Hazard.  ment  in  the  risk  due  to  circumstances  or 
conditions  of  a  personal  and  secret  nature  which  are 
not  disclosed  in  the  application,  although  as  regards 
family  history  and  apparent  health  the  applicant 
seems  to  be  a  desirable  risk.  The  answers  made  to 
the  questions  in  the  application  form  a  larger  part  of 
the  foundation  upon  which  the  contract  rests,  and  it 
is  necessary  in  order  to  have  a  fair  contract  that  the 
statements  be  complete,  accurate,  and  true.  The  con- 
tract is  in  one  aspect  one-sided  in  that  the  insured 


THE  SELECTION  OF  LIVES  81 

can  abandon  it  at  any  time,  but  the  insurer  cannot ; 
and  even  though  the  contract  is  obtained  by  misrep- 
resentations, the  burden  of  proof  rests  upon  the  com- 
pany. It  is  generally  true  that  a  company  in  order 
to  refuse  payment  must  prove  that  the  statements 
made  are  not  only  false,  but  also  that  they  were  will- 
fully stated  falsely. 

The  moral  hazard  exists  in  the  following  cases  :  — 

(a)  When  the  amount  of  insurance  sought  is 
larger  than  the  income  of  the  applicant  will  justify. 

(6)  When  the  beneficiary  named  has  no  insurable 
interest  in  the  life  insurance,  although  this  is  of  de- 
creasing importance. 

(V)  When  the  individual  is  involved  in  financial 
difficulties  due  to  a  failure  in  business  or  to  a  misap- 
propriation of  funds  intrusted  to  his  care. 

(c?)  When  the  applicant  is  young  and  has  not  yet 
acquired  fixed  habits  of  living.  He  may  become  as- 
sociated with  undesirable  classes  and  acquire  danger- 
ous habits. 

(e)  When  any  of  the  preceding  or  other  causes 
may  lead  to  temptations  to  suicide.  Some  companies 
protect  themselves  in  part  from  this  hazard  by  the 
suicide  clause  which  provides  that  in  case  of  suicide 
within  a  certain  period,  usually  from  one  to  three 
years  after  the  issue  of  the  policy,  the  face  of  the 
policy  will  not  be  paid.  Only  the  reserve  value  of 
the  premiums  is  paid  to  the  beneficiary  of  the  policy. 
The  vital  statistics  of  the  United  States  show  for  the 

G 


82  PRINCIPLES   OF  INSURANCE 

registration  districts,  which  include  about  one  half 
the  total  population,  that  in  1908  the  rate  of  suicides 
was  18.5  per  100,000  population.  These  figures, 
combined  with  those  of  65  American  cities  which 
show  for  1909  a  rate  of  20.6  suicides  for  100,000 
population,  make  this  question  of  suicide  an  impor- 
tant one  for  insurance  companies,  especially  when  it 
is  realized  that  those  insured  individuals  who  commit 
suicide  often  have  large  policies.  Statistics  show 
that  the  rate  of  suicide  per  100,000  population  in  the 
65  American  cities  has  increased  from  12.3  per  cent 
in  1890  to  20.6  in  1909.  The  moral  Jiazard  is  also 
present  when  insurance  is  granted  to  "  cranks,"  not 
only  because  of  the  adverse  effect  of  this  class  on 
mortality,  but  also  because  of  the  effect  on  the  com- 
pany in  securing  business  among  his  acquaintances 
and  the  likelihood  of  lapses  by  this  class,  as  well  as 
the  abnormal  increase  in  expense  of  securing  and 
keeping  this  type  of  an  individual  insured. 

The  methods  by  which  insurance  companies  are 
attempted  to  be  defrauded  by  dishonest  applicants 
are  too  numerous  and  too  generally  well  known  to 
need  description.  Misstatements  of  age  consciously 
and  unconsciously  made  are  very  numerous.  When 
unintentionally  made,  provisions  are  made  in  the 
policy  contract  for  corrections  without  any  loss  to  the 
policyholder.  The  tendency  intentionally  or  unin- 
tentionally to  misstate  age  is  so  strong  that  abso- 
lutely accurate  age  statistics  for  large  groups  cannot 


THE  SELECTION  OF  LIVES  83 

be  expected,  even  assuming  that  the  best  possible 
system  of  collecting  the  statistics  is  devised.  In 
many  cases,  the  ages  of  ancestors  were  never  known 
or  have  been  forgotten  ;  the  causes  of  death  of  even 
the  parents  of  the  insured  are  often  unknown. 

One  undoubted  fact  disclosed  by  age  statistics  is, 
that  there  is  an  excessive  concentration  of  ages 
about  years  that  are  multiples  of  five  and  to  a  less 
degree  in  even  numbered  years.  It  is  also  evident 
that  the  tendency  to  understate  age  is  stronger 
than  to  overstate  age  for  all  years  except  in  extreme 
old  age  and  to  a  less  degree  about  the  ages  18  and 
21  when  the  age  of  majority  for  the  two  sexes  is 
reached. 

The  preceding  circumstances  described  are,  then, 
the  causes  which  produce  substandard  or  under- 
average  lives.  The  practical  problem  for  The  Method 
the  insurance  company  is,  then,  having  °f  £eati °g  of 
these  lives  that  are  below  the  standard  ard  Lives. 
risk,  how  should  they  be  treated,  so  that  they  will 
not  adversely  affect  the  experience  of  the  company; 
otherwise  the  average  age  of  the  group  will  be 
affected,  for  the  company  assumes  that  it  will  be 
able  to  insure  young  and  vigorous  lives  at  the 
correct  ages.  Nor  is  the  practical  effect  of  insuring 
a  substandard  life  the  same  as  insuring  a  life  of 
advanced  years  with  a  short  expectation  of  life. 
An  underaverage  life  may  not  only  have  a  short 
expectation  of  life,  but  an  abnormally  short  expec- 


84  PRINCIPLES   OF  INSURANCE 

tation,  and  if  not  properly  rated  so  that  an  adequate 
premium  is  collected,  it  does  not  pay  its  due  share 
into  the  insurance  fund.  The  rate  of  mortality  is, 
it  must  be  recalled,  a  result  chiefly  of  two  factors, — 
the  duration  of  membership,  and  the  age  at  entry. 

The  effect  of  lapses,  that  is,  voluntary  withdraw- 
ing from  the  insurance  group,  will  be  discussed  later; 
but  it  may  be  readily  understood  that  if  the  younger 
lives  lapse  in  unduly  large  numbers,  the  average 
age  will  be  increased  and  hence  the  mortality  rate 
will  be  increased.  Nor  can  this  be  prevented  by 
securing  new  members  of  the  same  age  to  take  the 
place  of  the  lapsed  members.  This  would  simply 
place  the  company  in  the  same  position  that  it  was 
at  the  beginning.  It  must  secure,  not  only  new 
members  to  take  the  place  of  the  lapsed  ones,  but 
also  sufficient  other  new  members  to  keep  down  the 
average  age.  It  has  been  pointed  out  that  in  a 
mixed  table  of  mortality  those  who  insure  young 
receive  a  benefit  in  mortality  and  consequently  in 
their  premiums  and  dividends  from  the  fact  that  they 
have  many  years  yet  to  live  ;  and  since  the  company 
is  continually  insuring  new  lives,  the  past  young  en- 
trants will  receive  the  benefits  of  selection  from 
all  the  later  insured  group  through  many  years. 
Those  who  do  not  insure  until  well  advanced  in 
years,  do  not  live  through  a  long  series  of  years 
from  which  to  derive  the  benefit  of  selection  from 
the   company    which  is  continually  insuring  young 


THE  SELECTION  OF  LIVES  85 

lives.  They  become  members  of  a  group  and  are 
burdened  by  the  increasing  mortality  of  those  who 
have  survived,  the  benefit  of  selection  having  largely 
disappeared.  Concretely  this  practically  means  that 
the  young  person's  prospect  of  life  is  increased  by 
these  continual  additions  of  younger  persons  while 
the  person  who  does  not  insure  until  late  in  life 
suffers  a  diminished  expectation  of  life  because  he 
becomes  a  member  of  a  class  who  have  survived 
from  younger  ages.  The  time  to  take  out  insurance 
is,  therefore,  when  the  individual  is  young,  because: 
(a)  he  is  in  his  productive  years ;  (5)  because  he 
probably  has  before  him  many  years  of  obligation 
to  his  family ;  (c)  because  he  will  purchase  his  in- 
surance relatively  cheaper. 

With  these  introductory  remarks  we  may  now 
consider  the  methods  of  rating  up  lives.  It 
must  not  be  understood,  however,  that  all  insurance 
companies  have  the  same  standard  for  a  normal  life. 
Not  infrequently  does  an  applicant  who  has  been 
rejected  by  one  company  obtain  insurance  in  an- 
other, and  this  soon  after  the  rejection.  In  most 
companies  inquiry  is  usually  made  in  the  application 
whether  the  applicant  has  been  rejected  by  another 
company,  and  if  he  has  been  recently  rejected,  this 
fact  will  be  considered  presumptive  evidence  against 
granting  the  application.  The  variation  in  com- 
panies' standards  is,  however,  confined  within  fairly 
well  defined  limits.     It  is  due  chiefly   to   the    fact 


86  PRINCIPLES   OF  INSURANCE 

that  different  medical  examiners  do  not  discover 
the  same  facts  or  to  the  experience  of  the  company 
with  particular  classes  of  lives.  By  this  is  meant 
that  there  is  no  very  great  difference  in  the  inter- 
pretation of  facts,  that  is,  of  the  actual  physical 
condition  of  the  applicant  when  known,  but  all 
examiners  do  not  find  the  same  symptoms  nor 
diagnose   them   in  the   same   manner   when   found. 

The  chief  ways  of  making  adjustment  for  an  im- 
paired or  underaverage  life  are  as  follows  :  — 

(a)  Charging  the  regular  premium  for 
rating  up        a  higher  age. 

(6)  Writing  the  policy  applied  for  at 
the  regular  premium,  but  with  a  proviso  that  if  the 
insured  die  within  a  certain  period  such  as  five,  or 
ten  years,  the  face  amount  of  the  policy  is  reduced. 
This  is  the  lien  method. 

(c)  Charging  a  higher  premium. 

(jP)  Granting  the  insurance  applied  for,  but  on  a 
policy  different  from  that  applied  for ;  as,  for  exam- 
ple, issuing  an  endowment  policy  when  the  applica- 
tion was  for  an  ordinary  life  policy. 

(e)  Issuing  the  policy  on  premiums  based  on  im- 
paired life  tables. 

The  first  method,  that  of  charging  the  regular  pre- 
mium for  a  higher  age,  has  been  followed  extensively 
Rating  up  by  the  European  actuaries.  It  is  simply 
the  Age.  to  charge  an  applicant,  for  example,  at  age 
40  the  premium  at  age  45,  thereby  assuming  that 


THE   SELECTION  OF  LIVES  87 

his  impaired  physical  condition  practically  makes  his 
chance  of  death  that  of  the  average  person  of  the 
latter  age.  This  assumption,  that  impaired  physi- 
cal condition  will  cause  the  risk  to  increase  at  an 
increasing  proportion,  is  not  true  in  all  cases.  It  is 
doubtless  true  that  tendencies  to  certain  diseases  do 
increase  or  are  constant  with  increased  age,  but  there 
are  other  tendencies  to  disease  which  decrease  with 
age.  If,  therefore,  the  tendencies  either  increase  or 
decrease,  there  should  be  an  adjustment  of  the  pre- 
mium. The  method  of  thus  treating  substandard 
lives  is  so  easy  of  application  from  the  standpoint 
of  practical  administration  and  its  success  in  the 
past  has  been  so  great,  that  it  continues  in  great 
favor.  Then,  too,  since  from  the  standpoint  of  the 
company  it  protects  the  company,  not  only  for  the 
extra  risk  at  the  time,  but  also  in  the  future,  the  com- 
pany is  able  to  insure  applicants  on  plans  of  insurance 
such  as  the  limited  payment  policies  which  otherwise 
it  would  not  be  able  to  do.  This  makes  it  satisfac- 
tory to  many  of  the  applicants,  for  in  many  cases  no 
policy  could  be  sold  unless  it  was  the  same  as  some 
friend  of  the  applicant  had.  Especially  is  this  plan 
satisfactory  in  these  days  of  popularity  of  the  limited 
payment  policies.  Few  individuals  care  to  be  re- 
stricted to  buying  an  article  which  most  of  the  peo- 
ple do  not  want.  The  addition  to  the  age  is  usually 
under  ten  years  and  while  the  extra  yearly  amount 
in  the  early  years  is  not  great,  if  the  individual  lives 


88  PRINCIPLES  OF  INSURANCE 

long,  he  pays  a  considerable  extra  sum.  If  the  sub- 
standard life  is  at  age  30  and  is  rated  up  to  age  40, 
the  excess  premium  is  not  great  for  several  years  at 
least,  but  if  the  substandard  life  is  rated  up  from  50 
to  60  and  enjoys  the  average  expectation  of  the  nor- 
mal individual  at  age  50,  he  pays  a  sum  considerable 
in  excess  of  what  he  otherwise  would  have  paid.  It 
will  not  be  forgotten,  however,  that  these  individuals 
do  not,  as  a  class,  enjoy  the  normal  expectation  of 
life  of  standard  lives  at  their  age. 

Some  policyholders  naturally  object  to  paying  a 
higher  price  for  the  same  policy  which  a  friend  has, 
for  most  persons  are  unwilling  to  admit  that  they 
are  inferior  to  others.  Lapses  are  not  infrequent 
under  this  plan  of  rating  up  lives,  although  much  de- 
pends upon  the  education  of  the  people  as  to  the  par- 
ticular method  of  treating  substandard  lives.  There 
are  other  objections  to  the  above  method,  but,  as  has 
been  stated,  it  seems  to  have  worked  in  Great  Britain, 
where  the  people  have  been  educated  up  to  this  method. 
The  second  method  of  treating  substandard  lives, 
namely,  that  of  placing  a  lien  against  the  policy,  has 
become  very  popular  in  recent  years  with 
some  American  companies.  This  is  the 
plan  under  which  the  substandard  risk  is  accepted 
at  its  actual  age  for  the  premium  at  that  age,  but  the 
full  face  of  the  policy  is  not  paid  in  case  of  death 
within  certain  periods.  The  deduction  from  the 
face  decreases  as  the  insured  survives  beyond  the 


THE  SELECTION  OF  LIVES  89 

stated  periods  until  the  amount  agreed  to  be  paid  by 
the  company  is  the  full  face  value  of  the  policy. 
This  plan  was  devised  to  meet  the  objections  urged 
to  the  plan  of  charging  a  higher  premium.  It  is  also 
an  aid  in  selling  insurance,  since  the  policy  on  the 
impaired  life  can  often  be  sold  to  the  person  who 
feels  that  he  is  getting  the  same  policy  as  his  neigh- 
bor and  paying  the  same  price  for  it.  Then,  too,  few 
individuals  are  willing  to  admit  that  they  are  sub- 
standard, not  only  as  to  longevity,  but  as  to  most 
characteristics,  and  thus  the  vanity  of  the  applicant 
is  satisfied.  The  applicant  has  confidence  in  his 
ability  to  live  the  average  length  of  life,  and  if  he 
does,  his  personal  judgment  has  been  vindicated 
without  any  extra  premium,  and  if  he  dies,  he  has 
no  judgment  to  be  vindicated.  The  beneficiaries 
will  probably  be  favorably  disposed  in  their  judg- 
ment of  a  contract  from  which  they  benefit.  It 
must  be  recognized,  however,  that  given  a  substan- 
dard life  with  this  lien  imposed  upon  it,  which  dis- 
appears completers  say  after  ten  years,  there  is  no 
assurance  that  the  experience  of  the  companies  on 
this  class  of  lives  will  necessarily  be  favorable  on  ac- 
count of  using  this  method  of  treatment.  It  may 
well  happen  that  at  the  time  the  lien  disappears  the 
impairment  of  the  life  has  so  progressed  that  the  in- 
dividual is  almost  at  the  point  of  death ;  or  the  ten- 
dency to  the  disease,  on  account  of  which  the  lien  was 
imposed,  may  have  completely  disappeared. 


90  PRINCIPLES  OF  INSURANCE 

The  liens  do  increase  the  desirability  of  the  insur- 
ance, but  in  a  manner  not  really  appreciated  by  the 
insured  at  the  time  of  purchasing  the  policy.  In  the 
actual  practice  of  companies  these  liens  are  often  not 
nearly  equivalent  to  what  the  additional  premium 
would  be  if  the  plan  had  been  followed  of  rating  up 
in  years  the  substandard  risk.  The  method  of  rat- 
ing up  lives  by  liens  as  has  been  stated  has  more  to 
recommend  it  as  a  policy  of  practical  administra- 
tion than  as  one  of  scientific  value.  Other  objections 
to  the  plan  besides  that  of  not  rating  the  life  up 
sufficiently  and  hence  burdening  the  ordinary  policy- 
holders unduly  with  a  more  than  proportionate  con- 
tribution to  the  insurance  fund  are,  that  a  policy 
with  a  lien  cannot  be  offered  as  collateral  for  loans, 
and,  lastly,  if  such  a  policyholder  dies  soon  after  tak- 
ing out  the  policy,  his  family  receives  little  benefit 
from  his  insurance. 

A  method  of  determining  the  amount  of  the  lien 
is  as  follows :  If  an  applicant,  aged  30,  shows  the  di- 
minished prospect  of  the  life  of  an  average  individ- 
ual of  a  group  at  age  40,  the  difference  between  the 
premium  at  age  30  and  40  is  multiplied  by  the  num- 
ber of  years  of  expectation  of  life  at  the  actual  age. 
If  death  occurs  the  first  year,  the  face  of  the  policy 
is  diminished  by  this  amount.  If  the  insured  die  the 
second  year,  the  lien  is  decreased  by  one  year's  dif- 
ference in  premiums.  At  age  30,  suppose  an  appli- 
cant has  the   diminished  expectation  of  an  average 


THE  SELECTION  OF  LIVES  91 

person  aged  40.  The  net  premium  in  the  American 
Experience  Table  with  3  per  cent  per  $1000  on  the 
whole  life  plan  for  age  30  is  $18.28  and  for  age  40 
is  $24.75,  the  difference  being  16.47.  The  expecta- 
tion of  life  at  age  30,  the  actual  age,  is  35.33  years. 
This  expectation  multiplied  by  $6.47  would  give  a 
lien  of  $224.59  for  the  first  year.  Theoretically  the 
lien  should  be  annually  decreased,  and  even  then  it 
would  not  by  this  method  be  equivalent  to  insuring 
the  life  at  age  40,  but  in  practice  the  lien  period  is 
only  for  a  fixed  number  of  years.  Another  method 
is  to  have  the  number  of  years  of  loading  imposed 
on  any  life  arbitrarily  fixed  by  the  chief  medical 
examiner. 

The  method  of  charging  an  extra  premium  has 
been  sufficiently  described  in  connection  with  the 
second  method  to  indicate  some  of  its  objections. 

The  plan  of  charging  a  higher  premium,  especially 
if  it  is  on  the  policy  applied  for,  has  little  to  recom- 
mend it,  either  from  the  standpoint  of  . 
scientific  accuracy  or  practical  business  Higher  Pre- 
operation  of  the  company,  unless  it  is 
based  upon  data  collected  from  experience  of  im- 
paired lives  of  the  class  to  which  the  applicant  be- 
longs. If  the  higher  premium  is  collected  because 
the  applicant  is  granted  a  higher  premium  policy,  as, 
for  example,  an  endowment  policy,  when  the  applica- 
tion was  for  an  ordinary  life,  the  applicant  is  likely 
to  be  dissatisfied.     Difficulty  may  be  encountered  in 


92  PRINCIPLES   OF  INSURANCE 

delivering  the  policy,  and  even  after  delivery,  lapses 
are  likely  to  occur  on  account  of  dissatisfaction. 

Moreover,  the  plan  does  not  often  give  adequate 
protection  to  the  company.  If,  for  example,  an  ap- 
plicant shows  tendencies  to  tuberculosis  and  is  granted 
a  twenty-year  endowment  policy  when  he  applied 
for  an  ordinary  life,  the  assumption  is  that  he  shows 
the  expectation  of  the  average  healthy  life  of  the 
group  at  that  age.  But  the  life  is  admittedly  sub- 
standard, and  an  abnormal  death  rate  produces  loss 
to  the  company,  regardless  of  the  plan  of  insurance. 
It  is  true  that  the  company  gains  the  difference  in 
the  reserve  between  the  endowment  and  the  whole 
life  plan,  but  this  amount  in  such  cases  is  often  in- 
significant. 

The  plan  of  insuring  substandard  lives  on  impaired 
life  tables  depends  upon  the  applicability  of  the 
tables.  If  it  is  based  on  the  Institute  of  Actuaries' 
Impaired  Life  Table,  it  may  not  have  very  close  appli- 
cability to  risks  in  America  or  Australia.  It  is  diffi- 
cult to  devise  any  method  entirely  satisfactory  for 
the  reason  that  there  is  introduced  a  known  abnormal 
life  into  a  group  of  normal  lives,  the  degree  of  ab- 
normality being  impossible  to  determine.  It  is  the 
same  difficulty  which  always  arises  when  devising 
principles  and  rules  to  govern  a  homogenous  group 
and  then  have  introduced  into  it  heterogeneous  in- 
dividuals. It  is  an  attempt  to  make  a  rule  for  the 
exception. 


THE  SELECTION  OF  LIVES  93 

A  movement  which  has  attracted  considerable 
attention  within  the  past  few  years,  and  one  which 
affects  the  insurance  of  lives,  is  that  of  the  conserva- 
conservation  of  human  life.  The  direct  tionofLife. 
interest  of  the  insurance  companies  in  the  subject  is 
largely  due  to  the  efforts  of  Professor  Irving  Fisher 
of  Yale  University,  who,  being  interested  in  it  from 
purely  humanitarian  reasons,  presented  it  to  the  in- 
surance companies  as  a  proper  form  of  activity  for 
purely  business  reasons  in  addition  to  the  humani- 
tarian element  in  it.  The  movement  seeks  to  pre- 
serve, to  broaden,  and  to  extend  life.  It  is  well 
known  that  the  advance  in  the  medical  and  sanitary 
science  has  been  very  remarkable  within  the  past 
several  decades,  and  while  the  general  public  has 
received  much  benefit  from  the  advances  made  in 
this  science,  yet  it  can  hardly  be  claimed  that  these 
many  new  discoveries  in  hygiene  are  known  and 
acted  upon  by  the  general  public.  What  is  needed 
is  a  vigorous  campaign  to  educate  the  people  in  better 
ways  of  living. 

The  most  marked  effects  of  what  has  been  done  in 
the  past  reflect  themselves  in  the  lives  of  the  two 
classes,  the  dependents  and  defectives.  The  children 
and  the  aged  are  better  cared  for,  and  hence  more 
children  grow  to  maturity.  The  defectives,  such  as 
the  feeble-minded,  the  deaf,  and  the  blind  are  also 
much  better  cared  for  than  they  formerly  were.  It 
must  be  admitted,  however,  that  these  classes  are  ob- 


94  PRINCIPLES   OF  INSURANCE 

jectively  and  temporarily  a  burden  on  the  productive 
classes.  It  may  be  possible,  as  some  believe,  to  secure 
a  class  of  old  people  who  retain  their  mental  vigor 
sufficiently  to  be  of  great  value  to  the  other  members 
of  society  who  do  not  have  that  wisdom  which  comes 
alone  from  age  and  experience.  Least  attention, 
however,  has  been  given  to  the  productive  classes,  the 
men  and  women  of  adult  and  middle  life,  who  are  the 
chief  factors  in  determining  the  efficiency  and  worth 
of  a  civilization. 

The  movement  has  for  its  purpose  the  lengthening 
and  broadening  of  life  at  all  ages,  and  the  effect  on 
the  insurance  business  is  readily  perceived.  Insur- 
ance of  lives  is  based  to  a  large  degree  upon  a  mor- 
tality table  or  rate  of  deaths  among  a  selected  group 
of  the  population.  Such  a  movement  would,  if  suc- 
cessful, affect  the  death  rate  by  lowering  it.  It 
would  extend  the  productive  years  of  the  insured's 
life  ;  it  would  add  to  his  efficiency  while  he  is  a  pro- 
ducer ;  it  would  create  a  finer  sense  of  his  obligation 
to  take  insurance.  We  have  seen  that  a  mortality 
table  is  drawn  up  on  the  assumption  that  it  is  subject 
to  secular  and  temporary  changes,  and  this  movement 
would  favorably  affect  both  changes.  By  thus 
lowering  the  death  rate,  it  would  lower  the  greatest 
single  cost  of  insurance,  namely,  the  mortality  cost. 
The  movement  if  most  successful  would  prevent  un- 
timely death,  so  that  a  smaller  sum  could  be  charged 
as  a  premium,  but  it  would  be  as  sufficient  as  the 


THE  SELECTION  OF  LIVES  95 

larger  sum  now  collected  because  it  would  secure 
greater  additions  from  its  compound  interest  accumu- 
lations. It  would  increase  the  expectation  of  life. 
Not  only  the  average  length  of  life  would  be  affected, 
but  also  the  breadth  of  life,  for  life  is  narrowed  by 
morbidity.  The  length  of  life  is  usually  only  ex- 
tended by  controlling  sickness,  so  that  the  prevention 
of  sickness  is  the  primary  object  of  the  science  of 
hygiene.  If  it  is  true,  as  has  been  stated,  that  "  one 
third  of  the  deaths  are  preventable,  that  is,  postpon- 
able  "  and  that  "  it  is  within  the  power  of  man  to 
rid  himself  of  every  parasitic  disease,"  then  the  signi- 
ficance of  any  efforts  which  seek  to  extend  and 
broaden  life  is  very  important. 

The  particular  methods  by  which  these  results  are 
proposed  to  be  brought  about  are  in  general  as  fol- 
lows :    First,  by  affecting  heredity.     This 
may  be  done  by  creating  such  public  opin-  conserving 
ion  as  will  consider  with  disfavor  the  mar- 
riage of  the  physically   and  mentally  unfit  and  the 
propagation  of  their  kind.     This  result  may  be  aided 
by  legal  restrictions  on  marriage.   Second,  by  hygienic 
laws  and  the  activities  of  the  federal,  state,  and  local 
governments,  such,  for  example,  as  by  quarantine  reg- 
ulations, pure  food  laws,  pure  water  supplies,  milk 
inspection,  regulation  of  hours  and  conditions  of  labor, 
and  installation  of  safety  devices.     Third,  by  semi- 
public  hygienic  activities.     This  includes  medical  re- 
search and  instruction,  which  results  in  the  discoveries 


96  PRINCIPLES   OF  INSURANCE 

of  preventative  medicine,  of  antiseptics,  and  especially 
making  public  property  the  knowledge  thus  acquired. 
It  is  only  within  the  past  few  years  that  the  medical 
profession,  as  such,  has  done  much  to  educate  the 
public  in  the  proper  care  of  the  body.  Semipublic 
institutions,  such  as  hospitals,  sanitariums,  and  asylums 
are  doing  much  in  this  connection.  The  public 
schools  are  beginning  to  give  more  attention  to  the 
health  of  the  pupil,  and  much  good  can  be  expected 
from  this  source.  Fourth,  by  activities  of  private 
associations,  such  as  societies  to  prevent  'the  spread  of 
contagious  diseases,  corporations  seeking  to  care  for  the 
health  of  their  employees,  and  life  insurance  companies. 
Fifth,  by  the  practice  of  personal  hygienic  habits  as  a 
result  of  the  activities  of  such  associations  previously 
mentioned  and  a  better  realization  of  their  importance. 
The  conservation  of  life  depends,  not  only  upon  the 
collective  activities  of  all  on  a  wide  scale  to  prevent 
contagious  and  other  unnecessary  diseases,  but  also 
upon  the  care  with  which  an  individual  looks  after 
his  daily  health.  That  is  to  say,  length  of  life  is  a 
personal  and  an  impersonal  matter.  The  individual 
must  help  himself  and  be  helped  by  his  fellows.  He 
has  a  right  to  expect  that  his  fellows  will  not  unneces- 
sarily expose  him  to  a  disease,  but  his  fellows  also 
have  a  right  to  demand  that  he  will  not  so  injure  his 
vital  powers  by  acquiring  improper  habits,  and  by 
lack  of  exercise,  that  he  will  become  an  easy  prey  to 
disease. 


THE  SELECTION  OF  LIVES  97 

The  question  arises,  to  what  extent  is  the  insurance 
company  justified,  if  at  all,  in  taking  part  in  this 
movement  to  conserve  life?     It  calls  for  Relation  of 
an  expenditure  of  money  and  an  insurance   Jnsuranc« 

*  **  Companies 

company  has  no  money  other  than  that  to  Conserva- 
which  it  receives  from  its  policyholders.  faono 
It  is  a  trustee  of  these  funds  whether  it  be  a  stock 
company  with  its  self-chosen  officials  or  a  mutual 
company  with  its  officers  chosen  by  the  many  mem- 
bers of  the  company.  It  is  urged  that  precedents 
are  found  for*  life  insurance  companies  in  the  case  of 
fire  insurance  companies  which  have  spent  large  sums 
of  money  in  various  ways  to  reduce  the  fire  hazard  ; 
also  in  the  activities  of  liability  and  accident  com- 
panies which  spend  considerable  sums  in  inspection 
work  and  in  devising  protective  devices  of  various 
kinds  to  which  they  call  the  attention  of  employers 
and  their  insured  members.  It  is  admitted  by  all  that 
the  insurance  organizations  are  chiefly  business  and 
not  philanthropic  organizations.  Is  such  an  organi- 
zation justified  in  making  any  expenditure  which 
does  not  directly  effect  a  saving  for  its  members? 
It  is  scarcely  likely  that  our  courts  will  take  any 
other  point  of  view,  and  it  would  not  seem  reasonable 
that  they  should.  A  particular  activity  of  an  insur- 
ance company  need  not,  however,  for  this  reason  bene- 
fit only  the  members  of  the  insurance  group.  It  may 
benefit  the  general  public  as  well.  But  ought  not 
the  activity  to  benefit  the  insured  lives  in  particular 


98  PRINCIPLES   OF  INSURANCE 

and  the  general  public  only  incidentally  ?  Then,  too, 
even  assuming  that  the  monetary  benefit  of  activities 
to  conserve  life  is  clearly  shown,  there  yet  remains 
a  very  great  practical  objection.  Would  other  com- 
panies cooperate  in  a  general  action  for  this  purpose  ? 
If  one  or  several  companies  should  undertake  this 
expenditure,  it  might  unfavorably  affect  their  expense 
ratio  as  compared  with  other  companies,  for  assum- 
ing the  justification  and  benefits  of  such  a  movement, 
the  policyholders  of  other  companies  would  equally 
benefit.  The  objections  may  then  be  summarized  as 
follows  :  — 

(a)  The  legal  objections. 

(5)  The  difficulty  of  securing  proper  cooperation. 

REFERENCES 

Harbaugh,  C.  B.     The  Selection  of  Risks  by  the  Life  Insurance 

Solicitor. 
Dawson,  Miles  M.     The  Business  of  Life  Insurance.     Chaps. 

XXV,  XXVI. 
Roche,  J.  F.     A  Method  of  Handling  Impaired  Life  Risks. 
Stillman,  Chas.  F.     The  Life  Insurance  Examiner. 
Fricke,  William.     Insurance,     pp.  278-310. 
Alexander,  William.     The  Life  Insurance  Company.     Part 

II,  Chap.  V. 
Yale  Readings.     Vol.  I,  Chap.  XXI. 
Report  on  National  Vitality.     Parts  III,  IV  of  Vol.  Ill,  Senate 

Documents  No.  676,  Sixtieth  Congress,  Second  Session. 
Bowley,  A.  L.  Elements  of  Statistics.  Part  I,  Chap.  VI. 
Publications  of  the  American  Statistical  Association. 


CHAPTER  V 

THE  COMPANY 

Life  insurance  companies  may  be  classified  with 
reference  to  the  system  under  which  they  operate, 
with   reference    to   the    character   of    the   _     _ 

Classifica- 

internal  control  of  the  companies  and  with  tion  of  Com- 
reference  to  the  character  of  the  policy's  &me  ' 
participation  in  the  earnings.  According  to  the  first 
basis  of  classification  we  have  old  line,  assessment,  and 
fraternal  companies.  According  to  the  second  basis 
of  classification  we  have  the  stock,  mutual,  and  mixed 
companies  and  according  to  the  third  method  of 
classification  participating  and  nonparticipating  com- 
panies. 

An  old  line  company  is  one  which  sells  policies  for 
a  premium  fixed  in  amount  during  the  length  of  the 
contract,  and  which  accumulates  a  sinking  The  Old 
fund  or  reserve  to  meet  all  claims  upon  r"^*8*1 
the   company.     The    word  "  old "  has  no  Company, 
reference  whatever  to  the  length  of  time  that  the 
company  has  been  in  business,  since  the  youngest 
company  organized  under  this  plan  is  as  "  old "  as 
any  other  in   existence.     Without  anticipating  the 
later  discussion  of  the  premium,  it  may  readily  be 
seen  from  what  has  been  said  of  the  risk  that  the 

99 


100  PRINCIPLES   OF  INSURANCE 

necessity  of  reserve  is  the  effect  of  not  collecting  an 
increasing  premium  for  the  increasing  risk  of  death. 
More  than  the  actual  cost  of  carrying  the  individual 
risk  is  collected  in  the  early  years  of  the  policy  in 
order  that  less  than  the  actual  cost  may  be  collected 
in  the  later  years  of  the  policy  and  thus  the  absolutely 
small  charges  of  the  earlier  period  and  the  excessively 
large  ones  of  the  later  period  are  equated  into  a 
moderate  charge  for  the  whole  period  of  the  policy. 
The  assessment  system  of  life  insurance  is  that  ono 
under  which  theoretically  the  cost  of  the  insurance 
is  annually  collected  from  the  members  by 

X  JIG    ASSCSS" 

ment  Com-  assessing  .on  them  the  costs.  In  practice 
there  has  been  so  many  modifications  of 
this  theory  that  it  is  difficult  to  characterize  the  as- 
sessment plan ;  but  the  essential  idea  in  this  system 
is  that  no  reserve  is  collected.  In  no  plan  of  assess- 
mentism  is  the  policyholder  guaranteed  a  level 
premium.  In  its  earliest  form  an  assessment  or  a 
collection  was  made  from  each  member  upon  the 
death  of  a  member.  Later  a  definite  sum  was  prom- 
ised in  each  case  of  death,  and  each  member  was 
charged  a  certain  sum  at  entry,  but  it  was  not  at  first 
based  upon  his  age  at  entry.  Age  at  entry  was 
later  taken  into  consideration,  but  it  was  soon  per- 
ceived that  the  persisting  old  member  was  paying 
the  same  sum  as  the  young  entrant.  Whatever  of 
equity  there  had  been  at  the  beginning  of  the  com- 
pany soon  disappeared,  so  that  with  the  increasing 


THE   COMPANY  MJ 

death  rates  of  the  later  years,  the  healthier  old 
members  tended  to  withdraw  on  account  of  the  high 
cost.  The  sums  collected  were  usually  arbitrarily 
fixed  without  reference  to  mortality  tables.  It  was 
an  attractive  plan  to  many  because  it  seemed  that 
men  paid  for  their  insurance  as  they  got  it.  The 
present  plan  in  some  companies  is  to  charge  a  sum  at 
entry,  based  upon  the  age  at  entry  and  on  a  contract 
which  provides  that  such  additional  assessment  may 
be  levied  from  time  to  time,  as  the  needs  of  the  com- 
pany demand.  This  sum  is  frequently  in  excess  of 
the  current  costs  of  the  insurance  during  the  early 
years  of  the  organization  and  thus  affords  for  a  time 
a  fund.  In  some  cases  a  membership  fee  is  collected, 
which  also  aids  in  establishing  a  fund. 

However,  in  practically  all  the  plans  of  pure  assess- 
ment insurance  the  premiums  collected  are  not  suf- 
ficient premiums  as  required  by  the  most  reliable 
mortality  table.  The  plans  are  too  often  devised  to 
make  it  appear  that  the  buyer  of  the  assessment  in- 
surance is  getting  it  cheaper  than  he  would  old  line 
insurance.  Insurance,  like  any  other  commodity,  has 
its  price,  and  no  visionary  plans  can  make  it  cheaper. 
Indeed,  insurance  costs  are  more  definite  than  most 
costs,  for  they  have  a  limited  range.  The  stern  fact 
of  certain  death  and  a  fairly  definite  rate  of  dying 
confronts  all  those  who  sell  the  commodity  —  insur- 
ance. No  such  reductions  or  fluctuations  in  cost 
from  year  to  year  are  present,  as  in  the  case  of  the 


I  'ID '2  [    PRINCIPLES  OF  INSURANCE 

production  of  material  goods  on  account  of  the  use 
of  improved  appliances  or  other  changes.  Only  the 
very  gradual  improvements  in  conditions  of  living, 
better  care  of  the  sick,  more  successful  surgical 
operations,  and  more  secure  and  better  investments 
can  cause  permanent  reductions  in  the  cost  of  in- 
surance. It  is  not  a  difficult  matter  to  determine 
whether  the  premiums  collected  by  assessment  com- 
panies are  sufficient,  since  mortality  tables  and  inter- 
est calculations  will  disclose  the  fact. 

It  will  be  recalled  from  our  past  discussion  that 
assessment  companies  are  of  two  kinds,  the  pure 
business  assessment  company,  and  the  fraternal  com- 
pany doing  business  on  the  assessment  plan.  Such 
companies  have  been  in  the  past  relatively  free  from 
the  compulsory  valuations  required  by  state  depart- 
ments of  old  line  companies,  and  it  is  for  this  reason 
alone  that  many  of  them  have  been  able  to  continue 
in  business.  The  fraternal  assessment  companies 
especially  have  been  considered  purely  voluntary  and 
private  associations,  and  it  has  been  difficult  and  in 
most  cases  impossible  to  bring  them  under  the  regu- 
lation of  the  state.  It  has  been  argued  that  they  are 
not  organized  for  profit  and  they  have  always  had 
sufficient  representation  and  political  influence  in  the 
state  legislatures  to  defeat  regulative  legislation. 
As  a  matter  of  political  expediency  the  party  in 
power  has  often  hesitated  to  oppose  them  lest  future 
votes  might  be  lost.     The  evils  of  the  purely  business 


THE   COMPANY  103 

assessment  system  have  become  so  generally  recog- 
nized, however,  and  the  activity  of  the  state  along  the 
line  of  protective  legislation  has  so  increased  that 
uniform  laws  recommended  by  the  association  of 
state  insurance  commissioners  seem  likely  to  be 
adopted  in  many  states.  The  fraternal  assessment 
societies  themselves  have  accepted  the  principle  of 
the  recommendations,  and  while  the  adoption  of  them 
will  not  completely  rectify  the  errors  of  the  past, 
yet  it  is  a  long  forward  step  and  in  the  end  will 
result  in  placing  assessment  insurance  on  a  scientific 
basis. 

No  well-wisher  of  insurance  has  any  desire  to  force 
fraternal  insurance  companies  out  of  business,  for  they 
have  much  to  recommend  them  in  addition  Fraternal 
to  the  lower  cost  at  which  they  may  trans-  insurance, 
act  insurance,  as  compared  with  the  old  line  insurance 
company.  It  is  unreasonable  to  suppose,  however, 
that  the  people  of  the  twentieth  century  with  their 
increasing  care  for  system  in  organization  of  business 
will  much  longer  permit  such  a  blot  in  the  insurance 
business  as  the  old  unscientific  and  practically  dis- 
honest assessment  company.  So  far  as  the  plans  of 
fraternal  companies  are  the  same  as  the  unscientific 
assessment  plan,  so  far  are  they  unable  to  meet  their 
obligations  and  no  specious  appeal  to  the  sentiment 
of  fraternity  should  be  permitted  to  conceal  the 
injustice  of  the  plan.  What  more  elementary 
requirement    is   there    about    fraternity   than   that 


104  PRINCIPLES   OF  INSURANCE 

brothers  should  meet  their  obligations  ?  What  more 
fundamental  characteristic  of  real  fraternity  should  be 
observed,  than  honesty  in  making  a  contract  and 
fidelity  in  carrying  it  out  ?  If  fraternity  is  not  to  be 
a  farce,  those  who  are  responsible  for  the  millions  of 
fraternal  assessment  insurance  now  in  force  must 
make  adequate  provision  for  the  meeting  of  the 
obligations  now  unprovided  for.  Much  of  the 
fraternal  insurance  of  the  assessment  character  now 
held  has  not  been  paid  for.  In  many  cases  less  than 
one  third  is  paid  for,  that  is  to  say,  for  every  $1000 
of  insurance  in  force  $600  of  it  is  a  worthless  promise 
to  pay.  The  National  Fraternal  Congress  table  of 
Mortality  is  much  lower  than  the  American  table 
and  certainly  no  rates  lower  than  those  called  for  by 
the  former  table  should  be  permitted.  The  death 
rates  in  some  of  the  fraternal  organizations  are  now 
in  excess  of  the  rates  of  the  Fraternal  Table  and  even 
in  excess  of  the  rates  of  the  American  Mortality 
Table.  It  is  not  too  much  to  expect  that  other 
states  will  follow  the  lead  of  Iowa  and  prohibit  the 
organization  of  any  insurance  society  on  the  old 
assessment  plan  or  even  permit  the  organization 
of  any  new  company  on  any  other  plan  than  one 
which  will  absolutely  guarantee  the  collection  of  a 
premium  which  with  safe  and  wise  investments  will 
meet  all  future  demands.  It  is  a  kind  of  dishonesty, 
which,  although  often  originating  in  laudable  motives, 
has  been  all  too  prevalent  in  the  past. 


THE   COMPANY  105 

There  is,  then,  but  one  system  of  life  insurance. 
There  can  be  but  one  system  from  the  standpoint  of 
premium  collections,  and  that  is  one  under  only  One 
which  such  a  premium  will  be  collected  as  T™e  system 
the  rate  of  mortality  and  rate  of  interest  ance. 
show  are  sufficient.  All  these  other  so-called  systems 
of  insurance  should  be  classed  with  the  gambling 
contracts  of  the  early  developmental  stage  of  insur- 
ance. The  only  difference  is  that  in  assessment  insur- 
ance there  was  not  always  an  intent  to  deceive,  while 
in  the  gambling  contracts  this  intent  was  either 
always  consciously  present,  or  it  was  a  purchase  and 
sale  of  mere  chance.  However,  if  in  last  analysis, 
injustice  results,  it  makes  little  difference  to  the 
bearer  of  it  whether  the  original  purpose  was  good  or 
bad.  The  penalty  of  ignorance,  both  in  written  and 
unwritten  law,  is  no  less  severe  than  that  of  knavery, 
and  it  is  the  concern  of  society  to  protect  itself  from 
its  well  meaning  but  ignorant  members  no  less  than 
from  its  dishonest  members.  As  has  been  well  said, 
"  assessmentism  has  merited  a  sentence  of  legal  death 
and  fraternalism  a  suspended  sentence." 

We  have  now  to  consider  the  second  classification 
of  companies,  viz.  stock,  mutual,  and  mixed  com- 
panies. The  stock  company  is  one  or-  The  Stock 
ganized  by  private  individuals  who  have  Plan* 
subscribed  capital  stock  sufficient  to  convince  the 
state  that  the  companies  will  be  able  to  meet  their 
obligations.     It  is  owned  and  controlled  by  the  stock 


106  PRINCIPLES   OF  INSURANCE 

contributors,  who  select  the  officials.  All  the  profits 
in  the  pure  stock  companies  go  to  the  stockholders, 
and  all  policies  are  issued  on  the  non-participating 
plan.  If  a  company  organized  as  a  stock  company 
issue  policies  which  share  in  the  surplus  earnings  of 
the  company  and  also  permits  policyholders  to  have 
some  part  in  the  management  of  the  company, 
then  such  a  company  is  properly  called  a  mixed 
company. 

It  is  claimed  for  this  kind  of  a  company  that 
the  self-interest  of  the  stockholders  will  guarantee 
fidelity  to  their  trusteeship  in  caring  for 
of  the  stock  the  policyholders  funds  and  that  competi- 
tion of  other  stock  and  mutual  companies 
will  guarantee  a  fair  cost  of  insurance  to  the  poli- 
cyholder. It  is  also  argued  that  the  stockholders 
have  every  interest  in  selecting  the  most  efficient 
officials  and  this  they  are  free  to  do  without  any 
interference  from  the  uninformed  policyholders  who 
theoretically  can  dominate  the  policy  of  strictly 
mutual  companies.  The  stock  company  was  the 
first  to  develop  both  in  England  and  America  be- 
cause the  capital  was  a  partial  guarantee  of  the 
contracts  in  the  early  days  of  insurance  when  the 
mortality  tables  were  not  known  to  be  sufficiently 
accurate  to  assure  solvency  from  the  annual  contri- 
butions by  the  members  of  mutual  companies.  It  is 
assumed  under  the  stock  plan  that  a  small  addition 
is  made  to  the  actual  net  premium,  and  this  becomes 


THE   COMPANY  107 

the  fixed  premium  to  the  policyholder.  Any  losses 
are  borne  by  the  stockholders  and  any  profits  go  to 
them  as  payment  for  the  risk  incurred.  The  element 
of  risk,  however,  so  far  as  it  is  one  of  mortality  rate 
is  not  great,  for  such  a  mass  of  experience  is  now 
available  that  there  is  little  excuse  for  any  insurance 
organization  not  collecting  sufficient  premiums  for 
the  actual  mortality  to  be  experienced. 

In  a  strictly  mutual  company  there  is  no  capital 
stock  and  hence  no  stockholders.  The  company  is 
the  policyholders,  who  select  their  officials  The  Mutual 
and  control  the  management  of  the  com-  Plan- 
pany.  The  older  mutual  companies  have  no  capital 
stock  and  the  newer  ones  in  most  cases  only  a  nomi- 
nal capital.  It  is  often  provided  that  those  who  ad- 
vance the  capital  necessary  to  start  the  company 
shall  receive  a  certain  interest,  say  10  per  cent,  for 
the  risk  up  to  the  time  at  which  the  capital  may  be 
retired  when  a  reserve  and  possibly  a  surplus  has 
been  accumulated.  The  policyholders  in  a  mutual 
company  pay  a  premium  in  excess  of  the  actual 
mortality  premium  demanded  and  also  in  excess  of 
the  premium  for  the  same  kind  of  a  policy  in  a 
strictly  stock  company,  but  whatever  of  this  pre- 
mium is  not  necessary,  as  the  future  experience  of 
the  company  shows,  is  returned  to  them.  The  re- 
turn of  this  overcharge  is  called  a  dividend  and 
hence  the  policy  in  a  strictly  mutual  company  is  said 
to  be  a  participating  policy. 


108  PRINCIPLES   OF  INSURANCE 

It  is  claimed  for  this  form  of  company  that  it  has 
no  dividends  to  pay  the  stockholders   and   can  man- 
age its  affairs  in  such  a  manner  as  the 

Advantage  ° 

oftheMu-     policyholders   decide   is    proper.       Some 

tual  Plan.  ,  .        ■,  .  , .    . 

mutual  companies,  however,  issue  policies 
at  such  a  rate  that  the  contract  does  not  entitle  the 
holder  to  share  in  the  dividends,  that  is  to  say,  his 
future  overcharges  are  supposed  to  be  discounted  in 
the  form  of  a  lower  premium.  If  a  surplus  is  ac- 
cumulated in  addition  to  the  reserve,  this  is  also  the 
property  of  the  policyholders.  This  surplus  is 
accumulated  for  emergencies,  that  is,  for  higher 
mortality  claims  or  to  enable  the  company  to  give 
its  policyholders  the  same  general  dividends  or  re- 
turns that  it  has  been  making  in  the  past,  or  to 
cover  any  depreciation  in  assets. 

In  the  mixed  plan  there  are  stockholders  who  re- 
ceive dividends  on  the  capital  which  they  have  ad- 
The  Mixed  vanced.  A  certain  rate  of  interest  is  fixed 
Plan-  to  be  received  by  the  stockholders  and  all 

surplus  earnings  are  then  distributed  to  the  policy- 
holders. In  some  cases  no  limitation  is  fixed  as  to  the 
amount  which  the  stockholders  are  entitled  to  receive 
and  they  may  take  what  they  please,  although  they 
are  compelled  by  the  participating  policy  contracts 
to  make  some  distribution  to  such  policyholders. 
Some  states  require  the  retirement  of  the  stock  and 
fix  the  maximum  interest  to  be  paid,  while  others 
have  no  special  requirement.     Most  of  the  companies 


THE    COMPANY  109 

now  organized  have  capit.il  stock  because  most  states 
require  a  guarantee  capital  for  the  organization  of  a 
company. 

We  have  thus  stated  the  theoretical  basis  of  the 
different  kinds  of  companies,  but  in  actual  practice 
there  are  some  points  of  difference.  At  first  the  stock 
company  was  the  rule,  but  soon  the  mutual  company 
came  in  vogue.  The  large  dividends  paid  by  many 
of  the  mutual  companies  attracted  the  attention  of 
certain  investors  inclined  to  speculate,  and  stock  com- 
panies were  organized  in  larger  numbers.  Later  the 
mixed  company  became  the  rule. 

It  must  be  pointed  out  that  in  actual  practice  the 
difference  between  stock  and  mutual  companies  is 
more  apparent  than   real.     The  ordinary   _ 

rr  *     Companson 

reader  could  not  determine  from  the  rate  of  Kinds  of 

.       ,          -    .  <.  .  i  •   i  Companies. 

books  of  two  such  companies  which  was  a 
mutual  and  which  was  a  stock  company.  It  is  true 
that  there  is  a  general  tendency  for  stock  com- 
panies to  sell  only  nonparticipating  insurance.  The 
recent  investigations  of  the  insurance  business  by 
New  York  and  other  states  resulted  in  laws  requir- 
ing either  that  a  company  should  confine  itself  to 
writing  participating  or  nonparticipating  policies 
or  should  keep  separate  accounts  of  the  two  classes 
of  business.  This  was  done  in  the  belief  —  whether 
or  not  justified  by  the  facts  —  that  the  company's 
earnings  on  participating  policies  were  used  to  make 
lower   rates  for   the   nonparticipating   policies.      It 


110  PRINCIPLES   OF  INSURANCE 

does  not  necessarily  follow  because  there  are  stock- 
holders who  receive  dividends  that  the  net  cost  of 
the  same  kind  of  a  policy  to  the  insured  in  a  stock 
company  will  for  this  reason  be  higher  than  the  net 
cost  at  the  end  of  a  contract  in  a  mutual  company. 
The  net  cost  of  an  insurance  policy  to  the  holder  is  a 
function  of  so  many  variables  that  an  excess  at  one 
point  in  the  cost  may  be  balanced  by  a  saving  at 
another  point. 

Nor  does  the  distinction  based  on  the  fact  that  in 
one  case  the  company  is  controlled  by  the  stock- 
The  Proxy  holders  and  in  the  other  case  by  the  policy- 
wntro°mnf  holders  amount  to  very  much  in  real  prac- 
Companies.  tice.  The  management  of  a  mutual  as 
well  as  a  stock  company  is  controlled  by  very  few 
men.  We  have  seen  that  a  stock  company  sometimes 
permits  its  policyholders  to  vote,  but  in  neither  this 
case  nor  in  the  case  of  a  mutual  company  does  the 
average  policyholder  ordinarily  exercise  this  right. 
Few  of  the  policyholders  could  attend  in  person  the 
meeting,  and  even  if  they  did,  they  are  not  ordinarily 
well  enough  informed  upon  the  subject  to  vote  in- 
telligently. In  most  companies  the  proxy  system  is 
followed.  Under  this  system  the  policyholder,  either 
at  the  time  of  purchasing  a  policy  or  later  upon  in- 
vitation from  the  officials  of  the  company,  when  a 
notice  of  a  meeting  of  the  officials  is  sent,  gives  his 
proxy  or  right  of  voting  to  the  president  of  the 
company.     This  system  permits  the  company  to  be 


THE    COMPANY  111 

directed  by  the  board  of  directors  and  its  chosen 
executive  officials,  who  doubtless  are  in  position  to 
pass  most  intelligently  on  the  questions  which  come 
up  for  decision. 

It  is  urged  as  an  advantage  of  mutal  companies 
that  the  policyholder  has  an  opportunity  in  times  of 
crises  in  the  company's  affairs  to  express 
his  will  and  thus  correct  evils.  This  is  a  of  Mutual 
power  more  theoretical  than  actual,  for  the 
history  of  insurance  affords  no  clear-cut  case  when 
this  has  accomplished  any  great  reform.  The  com- 
petition of  other  companies,  both  mutual  and  stock, 
and  the  knowledge  of  this  final  power  resting  in 
policyholders,  together  with  the  supervision  by  the 
state,  are  the  really  protective  forces  for  the  policy- 
holder in  securing  honest  and  efficient  administration 
of  the  company.  It  was  thought  by  some  that  the 
mutual  company  would  afford  a  means  of  educating 
the  people  to  an  understanding  and  appreciation  of 
insurance.  Some  efforts  have  been  made  to  organize 
the  policyholders  into  local  associations  which  could 
make  their  will  known  to  the  home  office,  but  such 
attempts  have  not  been  successful.  The  average 
policyholder  knows  little  about  even  the  policy  he 
owns  and  still  less  about  the  insurance  business  and 
with  the  protection  afforded  by  the  state  there  is  no 
immediate  prospect  that  he  is  going  to  make  much 
effort  to  inform  himself  on  the  subject.  Efforts  must 
be  made  by  the  company  to  educate  him  to  a  more 


112  PRINCIPLES   OF  INSURANCE 

intelligent  appreciation  of  insurance,  supplemented 
by  the  work  of  educational  institutions.  The  apathy 
of  the  average  policyholder  is  surprising,  even  when 
it  can  be  shown  that  the  cost  of  his  insurance  is  to 
be  affected,  as  in  the  case  of  adverse  legislation.  He 
is  too  busy,  as  he  thinks,  in  his  business  and  profes- 
sional work,  to  give  attention  to  insurance.  There 
is,  then,  in  the  actual  conduct  of  the  business  little 
difference  between  a  stock  and  a  mutual  company 
so  far  as  the  question  is  concerned  as  to  what  indi- 
viduals shall  direct  the  affairs  of  the  company.  In 
either  kind  of  a  company  it  is  a  few  men  and  not 
the  rank  and  file  of  policyholders. 

The  third  classification — that  of  participating  and 
nonparticipating  companies  —  is  not  a  fundamental 
Participating  distinction.  It  is  classification  of  kinds  of 
and  Non-  business  or  policies  rather  than  companies, 
Companies,  for  a  company  which  ordinarily  writes 
only  policies  which  share  in  the  earnings  —  that  is, 
receives  dividends  — may  in  some  case  refuse  for 
special  reasons  to  permit  an  individual  to  have  such 
a  policy,  or  at  least  one  upon  which  the  dividends  are 
annually  distributed.  Indeed,  it  was  a  very  common 
practice  of  both  stock  and  mutual  companies  to  write 
both  participating  and  nonparticipating  policies  pre- 
vious to  the  investigations  of  the  insurance  business 
in  1905.  As  a  result  of  the  disclosures  in  this  inves- 
tigation, companies  were  required  by  some  states  to 
keep  separate  the  accounts  of  the  two  kinds  of  busi- 


THE   COMPANY  113 

ness.  This  required  such  a  vast  amount  of  work  and 
consequent  expense,  that  most  of  the  companies  now 
confine  themselves  to  writing  either  participating  or 
nonparticipating  policies,  and  for  this  reason  the 
above  classification  is  given. 

We  may  diverge  at  this  point  in  the  discussion  to 
explain  how  the  action  of  any  one  important  state 
mav   force  a   company  to   adopt   in  con- 

.         .  .  ..  .         HowtheRe- 

formity  to  such  action  a  uniform  practice  quirements 
in  all  the  states  in  which  it  writes  insur-  of  one  st*ie. 

may  control 

ance.     Suppose  Ohio  would  require  that  Policies  for 

,    .  .   .        ,  .    .     ,  .  ,.,      all  States. 

a  certain  provision  be  printed  in  every  life 
insurance  contract  issued  or  delivered  to  a  citizen  of 
that  state.  This  means  that  all  life  insurance  com- 
panies doing  business  in  Ohio  must  have  printed 
one  set  of  policies  for  Ohio  and  another  set  for  other 
states,  or  it  must  include  this  provision  in  all  its  poli- 
cies. If  the  requirement  is  one  which,  if  not  included 
in  policies  in  other  states,  means  a  marked  saving,  the 
compan}7  may  decide  to  pay  the  extra  printing  bill. 
If  it  is  an  important  reform,  it  is  likely  to  be  adopted 
by  other  states,  and  the  company  will  very  probably 
incorporate  it  voluntarily  in  its  policies.  However,  in 
the  actual  practice  of  insurance  the  policy  require- 
ments of  less  than  a  dozen  states  practically  decide 
the  terms  of  the  printed  contract.  Competition  of 
other  companies  from  various  states  is  also  a  power- 
ful force  in  bringing  about  general  uniformity  in  the 
terms  of  the  printed  policy. 


114  PRINCIPLES   OF  INSURANCE 

The  organization  of  a  life  insurance  company, 
whether  on  the  stock,  mutual,  or  mixed  plan,  requires 
•  several  stages.  In  addition  to  the  general 
zationofa  laws  governing  the  organization  of  all 
corporations,  practically  all  the  states  have 
special  laws  which  govern  the  organization  of  life 
insurance  companies.  In  many  states  a  minimum 
number  of  persons  who  may  organize  such  a  company 
is  fixed  by  the  statute.  These  several  persons  agree 
to  advance  certain  sums  of  money  for  the  initial  ex- 
penses, for  even  if  it  is  a  purely  mutual  company  —  a 
kind  now  seldom  organized — a  certain  amount  of 
capital  is  required  for  the  initial  expenses. 

The  interested  persons  hold  a  meeting  to  decide  the 
kind  of  a  company  which  is  to  be  organized  and  the 
amount  of  capital  stock  which  is  to  be  issued.  The 
officials  of  the  company  are  also  chosen.  Most  of  the 
states  require  a  certain  minimum  of  capital  stock  for 
the  ordinary  mutual  company,  and  in  many  cases  the. 
capital  stock  must  be  paid  up.  This  minimum  capi- 
tal is  required  as  a  deposit  fund,  held  by  the  state  in 
invested  securities,  the  income  of  which  goes  to  the 
company.  This  deposit  fund  is  supposed  to  give 
greater  security  for  the  policyholders,  but  if  the 
company  is  operating  on  scientific  plans  and  its  trans- 
actions are  carefully  supervised  by  the  state,  the  ne- 
cessity for  such  a  deposit  is  not  evident. 

After  the  above  requirements  have  been  met,  the 
interested  persons   apply  to  a  state  official,  usually 


THE    COMPANY  115 

the  secretary  of  state,  for  articles  of  incorporation, 
which  are  usually  called  a  charter.  The  state  official 
makes  an  examination  of  the  terms  upon  securing  the 
which  the  company  proposes  to  organize  Charter- 
and  do  business  in  order  to  discover  whether  the 
proposed  plans  violate  the  state  constitution  or  state 
laws.  Certain  matters  may  be  referred  to  the  chief 
law  officer  of  the  state,  the  attorney-general,  and  cer- 
tain other  matters,  having  to  do  with  the  financial 
security  to  the  insurance  commissioner.  If,  then,  the 
state  official,  empowered  to  grant  articles  of  incorpo- 
ration to  insurance  companies,  is  satisfied  with  the 
terms  proposed,  a  charter  is  issued.  The  charter  does 
not,  however,  grant  a  right  to  do  an  insurance  business. 
It  merely  grants  the  right  to  proceed  with  the  organ- 
ization of  the  company,  and  it  frequently  happens 
that  several  years  elapse  after  a  charter  is  granted 
before  a  company  begins  writing  business.  It  also 
Jiappens  in  some  cases  that  the  company  is  not  able  to 
effect  an  organization  and  never  applies  for  a  license 
to  write  policies.  The  next  important  step  after  se- 
curing a  charter  is  to  dispose  of  the  stock. 

A  well  marked  evil  has  developed  in  connection 
with  the  organization  of  the  numerous  new  companies 
since  1905.  This  consists  in  the  very  large  commis- 
sion given  to  agents  by  proposers  of  a  new  company 
for  selling  the  stock  of  the  new  company.  Not 
infrequently  are  these  stock  salesmen  permitted  as 
high  as  20  per  cent  commission,  and  when  it  happens 


116  PRINCIPLES   OF  INSURANCE 

that  the  officials  of  the  new  company  are  also  the 
stock  salesmen,  the  evil  is  particularly  glaring. 
Sometimes  shares  of  stock  are  either  given  or  sold  at 
a  large  discount  to  influential  men  in  a  community 
in  order  to  capitalize  their  name,  and  thus  sell  stock 
in  their  community.  This  last  evil  is  doubtless 
difficult  to  correct,  but  the  former  can  be  remedied 
by  limiting  the  commission  permitted  to  sellers  of 
the  stock  of  new  companies.  The  expenses  of  such 
sales  do  vary  considerably  in  different  sections  of  the 
country,  but  this  variation  can  be  taken  into  consider- 
ation by  each  legislature  in  establishing  the  limit. 
There  should  be  no  place  in  the  insurance  business 
for  the  professional  promoter.  In  order  to  control 
the  organization  of  companies  more  carefully,  some 
states  have  given  to  the  insurance  commissioner 
control  of  the  activities  of  companies  immediately 
after  a  charter  is  issued,  that  is,  during  the  period  of 
formation.  After  the  stock  has  been  sold  and  other 
details  of  the  organization  have  been  worked  out,  the 
company  applies  to  the  insurance  commissioner  for  a 
license  to  do  business.  The  insurance  commissioner 
then  makes  an  examination  of  the  company's  condi- 
tion, and  its  transactions  since  it  received  its  articles 
of  incorporation,  and  the  plans  under  which  it 
proposes  to  do  business,  the  policies  it  proposes 
to  issue,  and  other  matters  to  see  that  the  laws  gov- 
erning the  operation  of  insurance  companies  are  not 
violated.     Particular  attention  is  given  to  the  finan- 


THE    COMPANY  117 

cial  condition  of  the  company.  If  he  is  satisfied  on 
all  these  points,  a  license  is  issued  to  the  company, 
and  this  marks  the  time  of  the  real  beginning  of 
doing  an  insurance  business. 

It  must  be  evident  that  the  expenses  incident  to 
the  establishing  of  a  new  company  in  the  insurance 
business  are  very  considerable.     In  addi-  „ 

J  Expenses   of 

tion  to  the  usual  expenses  of  establishing  Organiza- 
an  ordinary  business,  such  as  rent,  office 
equipment,  and  salary  of  higher  officials,  the  very 
difficult  problem  of  securing  a  working  force,  —  that 
is,  agents  to  sell  the  policies  —  must  be  solved. 
There  are  not  as  in  most  kinds  of  business  a  number 
of  workers  waiting  for  positions.  The  insurance 
agent  should  be  a  skilled  workman.  It  usually  re- 
quires a  certain  amount  of  training  to  be  able  to 
sell  insurance.  The  new  company  must,  therefore, 
either  induce  agents  to  leave  other  companies  or 
train  the  inexperienced  man.  The  successful  agent 
of  the  established  company  is  ordinarily  not  anxious 
to  connect  himself  with  a  new  company  for,  all  other 
things  being  equal,  it  is  easier  to  sell  insurance  for  an 
established  company  than  for  a  new  company.  Con- 
sequently the  new  company  often  is  compelled  to 
make  an  offer  of  a  higher  commission  in  order  to 
induce  him  to  become  their  agent.  But  it  is  entirely 
too  expensive  to  thus  purchase  all  its  agency  force ; 
so  the  new  company  endeavors  to  secure  a  certain 
number  of  trained  men,  who  then  build  up  an  agency 


118  PRINCIPLES   OF  INSURANCE 

force  by  training  new  men.  There  is  in  the  insur- 
ance business,  as  in  all  businesses,  a  certain  number 
of  "floating"  workmen,  but  they  are  not  a  class 
upon  which  a  company  can  depend  for  substantial 
results. 

The  charter  and  the  license  granted  to  the  com- 
pany in  a  particular  state  do  not  confer  the  right 
to  do  business  in  any  other  state.  It  must  be  ad- 
mitted to  do  business  by  the  authorities  of  each  state 
in  which  it  seeks  to  do  business.  However,  by  the 
operation  of  state  comity  the  entrance  into  other 
states  is  usually  a  simple  matter.  Some  companies 
do  business  in  all  the  states ;  some  confine  them- 
selves to  certain  sections  of  the  country.  The  new 
company  gradually  organizes  its  business  in  other 
states,  usually  in  the  adjoining  states  first,  but 
entering  as  quickly  as  possible  the  states  of  dense 
population. 

The  process  of  organizing  a  fraternal  insurance 
company  is  somewhat  different  from  that  of  the 
The  Organi-  ordinary  stock  or  mutual  company.  It 
zation  of  a      jiag  keen  stated  that  efforts  have  been  made 

Fraternal 

Company.  for  several  years  to  bring  this  class  of 
companies  under  more  strict  control  as  to  their 
organization  and  operation.  The  officials  of  such 
companies  and  the  national  associations  of  insurance 
commissioners  have  agreed  upon  a  bill  which  has 
been  enacted  into  law  in  some  states  and  of  which 
enactment  is  pending  in  other  states. 


THE   COMPANY  119 

The  chief  provisions  of  this  bill  are  as  follows  : 
(a)    a   definition   is  given  of   fraternal   benefit   so- 
cieties ;     (5)    the    reserve    for    extended  standard 
and   paid  up  protection  and   withdrawal  Provislons 

*  *■     *■  governing 

equities  must  be  accumulated  and  main-  Organization 
tained  under  a  table  of  mortality  not  lower  Jnsurrance 
than  the  American  Experience  Table  on  a  Societies. 
4  per  cent  basis ;  (c)  membership  is  limited  to  per- 
sons between  16  and  60  years  of  age  who  have  been 
examined  by  a  legally  qualified  physician  ;  (d)  no 
society  can  be  incorporated  in  or  admitted  to  the 
state  in  the  future  which  does  not  provide  for  stated 
periodical  contributions  sufficient  to  provide  for  meet- 
ing the  mortuary  obligations  when  valued  upon  the 
basis  of  the  National  Fraternal  Congress  of  Mortality 
or  any  higher  standard  with  interest  assumption  not 
more  than  4  per  cent  ;  (e)  the  investments  of  funds 
must  be  in  such  securities  as  are  permitted  for  the  in- 
vestment of  the  assets  of  regular  life  insurance  com- 
panies ;  (/)  there  must  be  at  least  seven  incorpora- 
tors of  the  proposed  company ;  (jf)  the  organization 
must  be  completed  within  a  year  during  which  time 
a  bond  is  held  by  the  insurance  commissioner  and  a 
certain  minimum  amount  of  insurance  must  be  writ- 
ten ;  (Ji)  annual  reports  must  be  made  to  the  state 
commissioner  of  insurance,  and  beginning  with  1914 
a  report  of  the  valuation  of  policies  must  be  sent  to 
each  beneficiary ;  (t)  if  the  valuation  of  the  certifi- 
cates on  December  31,  1917,  shall  show  that  the  pres- 


120  PRINCIPLES   OF  INSURANCE 

ent  value  of  future  net  contributions  together  with 
the  admitted  assets  is  less  than  90  per  cent  of  the 
present  value  of  the  promised  benefits,  the  deficit 
shall  be  reduced  at  a  certain  rate  at  each  succeeding 
triennial  valuation  until  it  is  removed  and  in  case  of 
failure,  proceedings  for  dissolution  of  the  organization 
shall  be  instituted.  By  the  preceding  provisions  and 
others,  fraternal  insurance  is  brought  under  more 
careful  control  with  a  view  of  assuring  that  all  the 
obligations  will  be  met.  Exemptions  are  made  in 
the  case  of  certain  societies. 

The  state  of  Massachusetts  has  recently  passed  a 
law  which  permits  the  savings  banks  to  establish  de- 
partments for  selling  industrial  insurance.  No  agency 
force  is  employed  and  the  success  of  the  plan  is  yet 
to  be  shown. 

The  internal  operation  of  the  company  after  once 
organized  is  much  the  same  as  that  of  any  other  cor- 
The  internal  P01*ati°n  which  has  to  do  with  collecting 
Organization  investing,  and  disbursing  sums  of  money. 

and  Opera- 

tionofa  The  board  of  directors  has  complete  gen- 
Company.  era}  SUpervision  0f  the  company.  It  chooses 
the  president  and  the  other  principal  officers.  The 
board  divides  itself  into  various  standing  committees, 
which  usually  act  for  the  board  as  a  whole.  The 
number  of  committees  varies  in  different  companies, 
but  there  is  usually  a  committee  on  death  claims, 
one  on  agencies,  one  on  accounts,  one  on  finance,  and 
an  executive  committee.     These  committees  meet  as 


THE   COMPANY  121 

often  as  is  necessary.  They  listen  to  reports  from 
the  heads  of  the  departments  over  which  they  have 
supervision.  At  stated  intervals  the  whole  board 
meets  to  ratify  the  action  of  committees,  to  discuss 
general  policies  of  management  and  other  matters 
which  pertain  to  the  business  of  the  company.  The 
board  of  directors  delegate  very  large  powers  of  an 
executive  nature  to  the  president.  At  most  it  lays 
down  policies  or  adopts  them  upon  the  suggestion  of 
the  president  and  then  intrusts  the  details  of  execu- 
tion to  the  principal  officers.  The  presi-  The  Presi- 
dent of  an  insurance  company  is,  therefore,  dent* 
an  important  official.  He  needs  to  be  well  informed 
on  financial  matters,  and  at  least  well  enough  in- 
formed in  the  work  of  the  other  departments  to 
make  intelligent  recommendations  to  them  and  inter- 
pret the  results  secured.  He  is  a  counselor  for  his 
board  of  directors,  a  director  for  the  subordinate  offi- 
cials, and  a  protector  for  the  policyholders. 

There  may  be  several  vice  presidents,  each  of 
whom  may  be  at  the  head  of  a  department,  the  work 
of  which  is  to  be  described  later.  The  other 
treasurer  is  responsible  for  the  prompt  col-  0fficers- 
lection  and  safe-keeping  of  all  funds  and  the  over- 
sight of  all  investments.  The  investments  are  not 
made  by  the  treasurer,  but  by  the  committee  of  the 
board  of  directors  or  the  president  acting  for  or  with 
the  board  or  with  the  committee.  The  secretary  has 
supervision  and  charge  of  the  records  of  the  company 


122  PRINCIPLES   OF  INSURANCE 

and  the  correspondence.  The  actuary  has  charge  of 
all  the  subjects  which  pertain  to  premiums.  He  pre- 
pares premium  tables,  tables  of  loans  and  surrender 
values,  calculates  the  reserves  and  dividends  and  the 
mortality  experience  of  the  company.  Many  special 
calculations  are  annually  required  in  a  large  company 
as  to  premiums,  results  secured  on  past  policies,  and 
the  preparation  of  gain  and  loss  exhibits.  All  this 
work  is  done  by  the  actuary.  He  is  the  one  indis- 
pensable official  to  guarantee  that  the  business  is 
scientifically  conducted.  His  recommendations  may 
not  always  be  followed,  but  if  they  were,  it  would  go 
far  towards  guaranteeing  safe  insurance.  The  med- 
ical director  has  charge  of  the  force  of  medical  ex- 
aminers. He  selects  the  physicians  to  act  as  the 
company's  examiners  and  is  the  final  authority  on 
the  desirability  of  a  risk  from  a  physical  standpoint. 
All  examinations  made  by  the  local  examiner  are 
submitted  for  his  final  approval.  He  advises  the 
officers  and  board  of  directors  on  all  matters  pertain- 
ing to  his  department. 

The  work  of  an  insurance  company  may  be  divided 
into  the  following  departments  :  executive,  medical, 

actuarial,  legal,  financial,  and  agency.  Ad- 
mentsof  a      ditional  departments,  such  as  accounting, 

statistical,  and  investment  may  be  found. 
The  work  of  some  of  these  departments  has  previ- 
ously been  described  sufficiently,  but  others  demand 
a  more  detailed  consideration. 


THE   COMPANY  123 

The  legal  department  concerns  itself  with  the 
conduct  of  cases  before  the  courts,  arising  out  of 
contested  claims,  foreclosures  of  mortgages,  clear- 
ing titles  to  property,  and  a  wide  variety  of  other 
subjects.  It  must  also  see  that  bonds  are  properly 
drawn  up,  that  the  security  supporting  them  is  good, 
that  the  policies  state  precisely  what  is  intended,  and 
that  notes  are  properly  drawn.  It  keeps  the  officials 
informed  as  to  the  character  of  old  and  new  laws 
enacted  by  the  legislatures  affecting  insurance. 

The  statistical  department  not  only  tabulates  the 
varied  experience  of  the  company  on  insured  lives 
and  on  its  investments,  but  it  also  interprets  these 
statistics  in  order  that  the  future  conduct  of  the 
business  may  be  improved  from  the  experience  of 
the  past.  The  deductions  made  are  of  especial  value 
to  the  executive  and  actuarial  departments. 

The  agency  department  is  one  of  the  most  impor- 
tant of  all  departments,  for  it  is  the  one  which  secures 
the  business  for  the  company.  At  the  head  of  this 
department  is  a  superintendent  of  agents,  who  is 
sometimes  a  vice  president  of  the  company. 

Several  plans  of  organizing  the  agency  force  are 
in  vogue  :  (a)  the  general  agency  system  ;  (6)  the 
direct  agency  system  ;  (<?)  the  cashier  and  The  Agency 
branch  office  system  ;  (d)  the  brokerage  Force* 
system.  It  was  the  early  practice  of  insurance  com- 
panies in  England  and  America  to  pay  certain  com- 
missions to  any  one  who  induced  a  person  to  insure 


124  PRINCIPLES   OF  INSURANCE 

with  the  company.  A  class  of  persons  was  thus 
encouraged  to  enter  the  business,  who  considered  the 
interests  neither  of  the  company  nor  of  the  policy- 
holder, and  very  grave  evils  developed.  No  dignity 
was  given  to  the  work,  and  insurance  suffered  un- 
deserved criticism  on  account  of  the  irresponsible 
and  dishonest  persons  who  sold  it.  Some  improve- 
ment was  made  when  the  companies  employed  per- 
sons, either  on  a  fixed  or  contingent  salary,  who 
should  appoint  agents  to  solicit  insurance  on  a 
commission,  or  a  salary  ;  but  this  did  not  solve  the 
problem  because  the  local  agent  was  not  definitely 
controlled  by  the  company  and  the  general  agent 
was  often  not  adequately  rewarded. 

The  general  agency  system  is  established  by  giving 
exclusive  control  of  a  territory  to  a  general  agent. 
r      _        .   He  organizes  the  business  of  soliciting  in- 

The  General  &  & 

Agency  Sys-  surance  in  his  field,  by  appointing  agents 
for  whose  conduct  he  is  responsible.  He 
is  often  required  to  produce  a  certain  amount  of 
business.  He  receives  a  commission  on  all  business 
written  in  the  territory  as  well  as  a  renewal  commis- 
sion on  the  business,  that  is,  a  certain  per  cent  of 
each  premium  as  it  is  paid  to  the  company.  There 
is  a  very  decided  tendency  among  companies,  how- 
ever, to  permit  a  general  agent  to  write  business  in 
any  territory,  and  where  exclusive  territory  is  granted, 
it  is  usually  of  a  small  area.  The  objection  to  the 
general  agency  system  as  it  developed  in  the  past 


THE    COMPANY  125 

was  that  the  general  agent  with  the  exclusive  terri- 
tory was  often  tempted  not  to  develop  the  business 
after  he  had  secured  an  income  from  past  business. 
If  he  is  required  to  make  each  year  a  percentage  in- 
crease in  business,  the  results  secure^  may  be  quite 
as  good  as  under  any  other  system.  The  direct 
agency  system  is  that  in  which  the  agents  are  ap- 
pointed directly  from  the  home  office,  are  directed 
from  it  and  report  to  it.  The  merit  of  this  system 
is  in  the  centralization  of  authority  at  the  Home 
Office.  In  this  system  exclusive  territory  may  or 
may  not  be  assigned. 

The  brokerage  system,  which  has  come  to  be  of 
less  importance  in  life  insurance,  is  also  one  of  direct 
contracts  and  no  exclusive  territory  and  no  renewal 
commissions.  The  cashier  and  branch  office  system 
is  the  one  in  which  branch  offices  are  established  at 
different  points  in  charge  of  a  manager  and  a  cashier. 
The  manager  secures  local  agents  upon  terms  over 
which  he  usually  has  some  discretion,  but  all  con- 
tracts with  local  agents  must  usually  be  approved  by 
the  Home  Office.  The  manager  is  allowed  a  certain 
sum  for  office  expenses.  All  payments  on  policies 
in  the  territory  of  the  branch  office  are  made  through 
it  or  if  sent  to  the  Home  Office  by  the  policyholder, 
are  credited  to  the  account  of  the  particular  branch 
office. 

A  description  has  been  given  of  the  methods  by 
which  a  company  is  internally  controlled,  and   the 


126  PRINCIPLES   OF  INSURANCE 

subject  of  external  control,  that  is,  control  by  the 
state  will  be  discussed  in  detail  in  a  subsequent 
chapter. 

At  this  point  it  may  be  stated  that  a  company  is 
controlled  in  three  general  ways  :  (a)  by  the  enact- 
Legisiative  ment  of  general  laws  governing  the  or- 
Control.  ganization  of  insurance  companies;  (£>) 
by  enacting  from  time  to  time  laws  in  reference 
to  their  operation  which  have  to  do  with  the  terms 
of  the  contract,  the  investment  of  funds,  the  expense 
for  business,  standards  of  solvency,  taxation,  and  a 
wide  variety  of  subjects  ;  (<?)  by  requiring  that  each 
company  make  report  of  its  business  to  a  state  official, 
usually  a  state  commissioner  of  insurance.  The  re- 
port includes  sworn  statements  of  business  in  force, 
new  business  written,  reserve  accumulations,  disburse- 
ments and  receipts,  liabilities  and  assets,  and  much 
other  information.  The  object  of  such  a  report  is  to 
assure  the  official,  and  through  him  the  people,  that 
the  company  is  a  solvent  one. 

A  brief  discussion  may  be  made  in  conclusion 
about  the  business  of  selling  insurance.  We  have 
Selling  in-  seen  that  the  °^  type  of  the  agent  was 
surance.  simply  interested  in  bringing  a  prospective 
purchaser  to  the  company,  which  then  insured  or 
rejected  him.  The  agent  was  a  solicitor.  He  ac- 
cepted the  contract  as  made  by  the  company  and 
did  not  concern  himself  with  its  terms.  He  knew 
little  about  its  terms  and  cared  less.     He  was  sim- 


THE   COMPANY  127 

ply  interested  in  getting  his  commission.  A.  new 
type  of  agent  has  largely  displaced  this  earlier  type. 
He  is  not  only  familiar  with  the  terms  of  the  contract, 
but  very  frequently  knows  considerable  about  the 
insurance  business.  He  also  feels  a  personal  respon- 
sibility to  the  company  to  produce  for  it  desirable 
business  and  to  the  policyholder  to  sell  him  honestly 
a  policy  suited  to  his  economic  and  social  position. 
He  takes  a  legitimate  pride  in  his  work,  for  he  comes 
to  appreciate  its  immense  social  value.  He  is  con- 
tinually appealing  and  urging  men  to  do  their  known 
duty.  His  work  is,  speaking  generally,  no  longer  to 
convince  men  of  the  desirability  or  excellence  of  in- 
surance, but  rather  to  persuade  them  to  purchase 
what  they  need.  However,  the  most  successful  agent 
is  not  necessarily  that  one  who  writes  the  greatest 
number  of  policies,  but  rather  that  one  who  sells  to 
the  greatest  number  of  individuals  policies  which  are 
suited  to  them.  Doubtless  many  agents  have  not 
yet  acted  up  to  their  responsibility  in  this  particular, 
but  no  young  man  who  expects  to  build  up  an  en- 
during insurance  business  can  adopt  a  safer  plan 
than  that  of  determining  that  he  will  be  completely 
sincere  in  his  honest  efforts  to  place  the  kind  and 
amount  of  insurance  where  it  is  needed.  The  char- 
acteristics required  to  become  a  successful  salesman 
of  insurance  are  not  entirely  peculiar  to  this  business. 
He  must  above  all  be  energetic.  He  should  have 
the  qualities  of  originality  and  leadership  to  a  con- 


128  PRINCIPLES  OF  INSURANCE 

siderable  degree.  He  should  be  a  good  judge  of 
human  nature  and  be  able  to  clearly  express  his 
thoughts  in  a  concise  and  forceful  manner.  He  needs 
to  have  sufficient  analytical  power  to  determine  the 
significance  of  the  terms  of  his  company's  contracts 
and  those  of  his  competitors.  He  should  thoroughly 
believe  in  the  business  and  the  excellence  of  his  com- 
pany. As  the  knowledge  of  insurance  and  its  prac- 
tices become  more  widely  diffused,  a  higher  and  higher 
type  of  agent  will  be  necessary,  for  there  is  no  im- 
mediate prospect  that  men  will  voluntarily  purchase 
insurance  without  the  activity  of  the  agent.  For  the 
young  man  who  has  these  qualities,  the  insurance 
business  offers  a  most  excellent  present  and  future 
field,  not  only  from  the  standpoint  of  remuneration, 
but  also  because  it  is  a  business  which  brings  satis- 
faction to  the  conscience  of  the  individual.  In  many 
cases  in  old  age  is  a  man  led  to  consider  the  character 
of  his  lifework  and  few  find  greater  satisfaction  than 
the  man  who  has  spent  an  honest  life  in  the  insur- 
ance field.  His  work  has  been  constructively  social. 
He,  like  the  teacher  and  preacher,  has  labored  for  the 
distinctive  betterment  of  mankind,  and  his  reward 
is  quite  as  much  in  the  intangible  personal  and  social 
approbation  as  in  the  tangible  monetary  reward  for 
his  daily  work. 


THE   COMPANY  129 


REFERENCES 

Dicksee,  L.  R.  and  Blain,  H.  E.     Office  Organization  and 

Management. 
Annals  American  Academy  of  Political  Science.     Vol.  XXVI, 

pp.  192-203,  243-255. 
Graham,    William   J.     The   Romance   of    Life   Insurance. 

Chaps.  VI,  XIII. 
Report  of  Joint  Committee  and  Assembly  of  New  York.  pp. 

358-362,  388-393. 


CHAPTER   VI 

THE  PREMIUM 

The  premium  is  the  sum  that  is  paid  by  the  insured 
to  the  insurer  for  the  indemnity  or  benefits  which  the 
latter  sells.  The  premium  may  be  a  single  payment, 
a  series  of  annual  payments  or  payments  made 
weekly,  monthly,  quarterly,  or  semiannually.  In 
The  Pre-  case  tnev  are  Pa^  i*1  periods  less  than  a 
mium.  year  an  addition  to  the  fractional  part  of 

the  annual  premium  is  made  because  all  premiums, 
so  far  as  they  are  determined  by  the  mortality  table, 
are  based  on  the  annual  death  rate  and  not  on  the 
weekly  or  semiannual  death  rate.  The  company 
loses  one  half  a  year's  interest  on  the  premium, 
which  is  paid  semiannually. 

Several  kinds  of  premiums  must  be  distinguished. 
The  net  or  pure  premium  is  the  sum  required  to  pro- 
Kinds  of  yide  f°r  death  losses.  The  gross  premium 
Premiums.  is  ^^e  ne£  premium  plus  the  additions 
made  to  it  for  the  purpose  of  expenses  and  contingen- 
cies. The  natural  premium  is  a  term  sometimes  use"u° 
to  mean  the  annually  increasing  premium  which  is 
necessary  to  meet  the  annually  increasing  chance  of 
death.     In  this  sense  it  means  that  if  the  young  man, 

130 


THE  PREMIUM 


131 


aged  25,  prefers  to  pay  for  his  insurance  year  by  year 
as  he  obtains  the  protection,  he  must  pay  an  annually 
increasing  sum.  In  this  sense  it  is  contrasted  with 
the  level  premium  which  is  the  sum  that  neither 
increases  nor  decreases  during  the  length  of  the,  con- 
tract, but  which  by  its  periodic  payments  secures  the 
benefit  guaranteed.  The  level  premiums  are  the 
mathematical  equivalent  of  the  natural  premiums. 
This  can  be  ex-  a 

pressed  by  the 
following  figure 
in  which  the  tri- 
angle represents 
the  natural  pre- 
mium and  the 
rectangle     the      a 

level  premium.  The  perpendicular  lines  represent 
the  annual  payments  under  each  premium  plan.  The 
area  of  the  rectangle  equals  the  area  of  the  triangle, 
that  is,  the  natural  premiums  are  equivalent  to  the 
level  premiums.  The  excess  payments  of  the  earlier 
years,  namely,  the  triangle  abc,  balances  the  deficient 
payments  of  the  later  years,  namely,  the  triangle  cde. 
That  is  to  say,  the  payments,  represented  by  the  tri- 
angle abc,  constitute  a  reserve  or  a  sinking  fund  thus 
accumulated  out  of  premium  payments  for  the  pur- 
pose of  meeting  obligations  as  they  fall  due. 

It  will  be  recalled  that  the  level  premium  is  the 
basis  of  practical  insurance,  for  while  one  premium  is 


b  e 


132  PRINCIPLES   OF  INSURANCE 

as  scientific  as  the  other,  the  practical  difficulties  of 
conducting  insurance  on  the  natural  premium  plan 
are  insurmountable.  It  is  for  this  reason  that  so 
many  of  the  assessment  societies  have  failed.  As  the 
members  of  the  pure  assessment  society  became 
older,  the  necessarily  higher  premiums  became  so 
burdensome  to  the  surviving  members  that  they  often 
gave  up  their  insurance  and  new  members  are  loath 
to  enter  a  society  when  the  rates  are  increasing. 
The  theoretical  plan,  then,  of  paying  for  your  insur- 
ance as  you  get  it,  has  never  been  successful  in  prac- 
tice. Insurance  must  be  paid  for  during  the 
productive  years  of  life  and  not  become  an  increas- 
ing burden  with  increasing  age  with  its  accompany- 
ing unproductive  years. 

The  net  level  premium  is  simply  the  level  premium 
without  its  additions  for  expense  and  contingencies. 
With  these  additions  it  is  called  a  gross  level 
premium. 

We  are  now  to  explain  how  the  ordinary  premiums 
of  the  chief  policies  are  calculated.  To  do  this  we 
make  the  following  calculations  :  — 

(a)  Calculate  the  net  single  premium,  which  is  the 
amount  paid  in  advance  in  a  single  sum  that  will 
Methods  of  purchase  a  certain  sum  of  insurance,  pay- 
£??££!  .  able  at  death. 

the  Different 

Premiums.  (£>)    Calculate  a  life  annuity  due. 

(<?)  Calculate  the  number  of  annual  premiums 
which  will  be  equivalent  to  this  single  premium. 


THE  PREMIUM  133 

(c?)  Calculate  a  temporary  annuity  due  in  order 
to  determine  the  premium  for  a  limited  payment  life 
policy. 

(e)  Calculate  the  single  premium  for  a  pure 
endowment  contract  and  combine  it  with  the  single 
premium  for  term  insurance  to  determine  the  single 
premium  of  an  ordinary  endowment  policy.  This 
divided  by  the  temporary  annuity  will  give  the 
annual  net  endowment  premium. 

Any  other  premium  on  the  majority  of  the  policies 
now  written  will  be  some  form  of  these  premiums. 

To  calculate  the  net  single  premium  :  Assume 
that  there  are  1000  men  who  desire  to  buy  the  right 
to  receive  $1000  each  from  an  insurance  company, 
and  assume  further  that  they'  wish  to  pay  for  this 
right  in  one  payment.  Let  us  suppose  that  the  limit 
of  life  for  the  group  of  1000  purchasers  at  50  years 
of  age  is  53  years  and  that  200  die  the  first  year,  300 
the  second,  and  500  the  third.  Since  the  company  is 
to  pay  $1000  to  each,  the  total  sum  to  be  paid  out  is 
$1,000,000,  but  since  only  a  part  of  this,  $200,000, 
will  be  paid  out  the  first  year,  another  part,  $300,000, 
the  second  year,  and  still  another  part,  $500,000,  the 
third  year,  the  company  will  not  need  to  collect  the 
total  sum  $1,000,000  at  the  beginning,  because  only  a 
part  is  to  be  demanded  each  year  and  the  sum  paid  in 
will  increase  by  its  interest  earnings.  Assume  that 
3  per  cent  interest  can  be  earned.  Now,  since 
$200,000  is  to  be  demanded  at  the  close  of  the  year, 


134  PRINCIPLES  OF  INSURANCE 

the  question  is,  What  sum  bearing  3  per  cent  interest  for 
one  year  will  amount  to  $200,000  ?  The  present  value 
of  11  for  one  year  at  3  per  cent  is  .970874  cents,  and 
therefore  the  present  value  of  the  1200,000  is  .970874 
times  the  sum,  or  $194,174.80.  Likewise  the  present 
value  of  $300,000,  which  is  to  be  demanded  only  at 
the  close  of  the  second  year  and  therefore  has  had 
two  years  to  accumulate  interest,  is  $282,778.80;  that 
is,  it  is  .942596,  the  present  value  of  $1  to  be  paid 
in  two  years,  times  300,000.  In  the  same  manner 
the  present  value  of  the  $500,000,  which  is  to  be 
demanded  the  third  year,  is  found  to  be  $457,571. 
The  total  amount  of  the  present  value  of  these  three 
sums  is  $834,524.60,  and  since  there  are  1000  persons 
who  are  to  be  insured,  each  should  pay  $834.5246  in 
order  that  the  company  may  be  able  to  pay  to  each 
$1000  insurance. 

It  is  assumed  that  the  payments  by  the  company 
are  to  be  made  at  the  close  of  the  first,  second,  and 
third  years,  when  all  of  the  persons  will  have  died. 
This  single  payment  of  $834.52  is,  then,  the  net  single 
premium  necessary  to  secure  $1000  insurance  under 
the  above  assumptions.  Since  we  have  shown  in  a 
simple  way  how  a  single  net  premium  might  be  cal- 
culated under  an  assumed  mortality  table,  that  is, 
one  in  which  each  of  1000  persons  aged  50  would 
die  by  age  53,  we  may  now  apply  the  same  method 
of  calculation  to  an  actual  mortality  table  and  deter- 
mine the  net  single  premium,  necessary  to  be  col- 


THE  PREMIUM  135 

lected   in   order  that  the  company  can  pay  $1000 
upon  the  death  of  the  insured. 

The  problem  is  to  calculate  the  net  single  premium 
for  a  whole  life  policy  of  $  1000  for  a  person  at  age  50. 
By  referring  to  the  American  Mortality  Table,  it 
will  be  found  that  of  100,000  persons  aged  10  only 
69,804  are  living  at  age  50.  It  is  also  observed 
that  962  will  die  within  a  year  and  there-  ^   „ 

J  The  Net 

fore  the  company  will  be  compelled  to  Single  Pre- 
pay out  $962,000.  But  the  present  value  mmm' 
of  this  sum  or  the  amount  necessary  to  be  col- 
lected at  the  beginning  of  the  year  is  $933,981, 
which  with  its  interest  accumulations  at  3  per  cent 
amounts  to  the  $962,000.  Likewise  the  company 
will  not  need  to  collect  the  $1,001,000  for  the  1001 
who  die  in  their  fifty-first  year,  but  only  the  present 
value  of  this  sum  for  two  years  at  3  per  cent,  which 
is  $943,539.  So,  too,  it  will  not  need  to  collect  in 
the  beginning  the  $3000  which  will  be  demanded 
according  to  the  mortality  table  by  the  death  of  the 
last  three  survivors  in  their  ninety-fifth  year,  but 
only  the  present  value  of  $3000  for  46  years,  which 
is  $770.  Likewise  the  present  value  of  the  sums  to 
be  demanded  each  year  is  calculated,  and  the  amount 
of  all  these  present  values  is  $38,756,240.  This  is 
the  sum  necessary  to  be  collected  at  the  beginning 
of  the  first  year,  viz.  the  fiftieth,  in  order  that  the 
company  can  pay  to  each  of  the  69,804  the  $1000 
when  they  die.     Since  each  is  to  have  the  same  kind 


American 

Expe- 

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COMPUTATIO 

at  Age  50. 

Mortality 

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3 

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50 

69,804 

962 

$    962,000 

End  1st  year 

$.970874 

933.981 

51 

68,842 

1,001 

1,001,000 

it     2d      " 

.942596 

943,539 

52 

67,841 

1,044 

1,044,000 

"     3d      " 

.915142 

955,409 

53 

66,797 

1,091 

1,091,000 

44     4th     " 

.8S8487 

969,339 

54 

65,706 

1,143 

1,143,000 

"     5th     " 

.862609 

985,962 

55 

64,563 

1,199 

1,199,000 

"     6th     " 

.837484 

1,004,143 

56 

63,364 

1,260 

1,260,000 

"     7th     " 

.813092 

1,024,495 

57 

62,104 

1,325 

1,325,000 

"      8th     " 

.789409 

1,045,967 

58 

60,779 

1,394 

1,394,000 

44     9th     " 

.766417 

1,068,386 

59 

59,3S5 

1.468 

1,468,000 

M    10th     " 

.744094 

1,092,330 

60 

57,917 

1,516 

1,546,000 

«4   11th     " 

.722421 

1,116,863 

61 

56,371 

1,628 

1,628,000 

11    12th     " 

.701380 

1,141,842 

62 

54,743 

1,713 

1,713,000 

"    13th     " 

•6S0951 

1,166,471 

63 

53,030 

1,800 

1,800,000 

"    14th     " 

.661118 

1,190,012 

64 

51,230 

V89 

1,8S9,000 

44    15th     M 

.641862 

1,212,477 

65 

49,341 

1,980 

1,980,000 

11    16th     " 

.623167 

1,233,869 

66 

47,361 

2.070 

2,070,000 

"    17th     ■* 

.605016 

1,252,383 

67 

45,291 

2,158 

2,158.000 

"   18th     " 

.587395 

1,267,598 

68 

43,133 

2,243 

2,243,000 

"   19th     " 

.570286 

1,279,151 

69 

40,890 

2,321 

2,321,000 

11    20th    M 

.553676 

1,285,083 

70 

38,569 

2,391 

2,391,000 

•    "    21st     44 

.537549 

1,285,281 

71 

36,178 

2,448 

2,448,000 

44    22d      " 

.521893 

1,277,593 

^  72 

33,730 

2,487 

2,487,000 

44    23d      " 

.506692 

1,260,145 

^•73 

31,243 

2,505 

2,505,000 

44    24th     44 

.491934 

1,232,295 

74 

28,738 

2,501 

2,501,000 

44    25th     " 

.477606 

1,194,493 

75 

26,237 

2,476 

2,476,000 

44    26th     44 

.463695 

1,148,108 

76 

23,761 

2,431 

2,431,000 

44    27th     44 

.450189 

1,094,409 

77 

21,330 

2,369 

2,369,000 

44    28th     " 

.437077 

1,035,436 

78 

18,961 

2,291 

2,291,000 

44    29th     44 

.424346 

972,176 

79 

16,670 

2,196 

2,196,000 

44    30th     " 

.411987 

904,723 

80 

14,474 

2,091 

2,091,000 

44    31st     44 

.399987 

836,372 

81 

12,383 

1,964 

1,964,000 

44    32d      " 

.88S337 

762,693 

82 

10,419 

1,S16 

1,816,000 

44    33d      44 

.377026 

684,679 

83 

8,603 

1,648 

1,648,000 

44    34th     44 

.366045 

603,242 

84 

6,955 

1,470 

1,470,000 

44    35th     " 

.355383 

522,413 

85 

5,485 

1,292 

1,292,000 

"    36th     "• 

.345032 

445,781 

86 

4,193 

1,114 

1,114,000 

44    37th     " 

.334983 

373,171 

87 

3,079 

933 

933,000 

44    38th     44 

.325226 

803,436 

88 

2,146 

744 

744,000 

44    39th     44 

.315754 

234,921 

89 

1,402 

555 

555,000 

44    40th     " 

.306557 

170,140 

90 

847 

8S5 

385.000 

•«    41st     44 

.297628 

114,587 

91 

462 

246 

246,000 

44    42d       " 

.288959 

71,084 

92 

216 

137 

137,000 

«'    43d       44 

.280543 

38,434 

93 

79 

58 

58,000 

"    44th     44 

.272372 

15,798 

94 

21 

18 

18,000 

44    45th     44 

.264439 

4,760 

95 

3 

3 

3,000 

"    46th     " 

.256737 

770 

Totals 

69,804 

$69,  SO  1,000 

$38,756,240 

THE  PREMIUM  137 

of  a  contract  and  no  one  knows  when  he  will  die, 
each  should  pay  $555.22,  or  $38,756,240  divided  by 
69,804.  This  is  the  net  single  premium  for  a  whole 
life  policy  of  $1000  at  age  50.  The  table  shows  in 
detail  the  processes  in  the  calculation. 

If  we  wish  to  calculate  the  net  single  premium  for 
a  policy  which  is  not  for  life  but  for  only  a  term  of 
years,  say  twenty,  we  add  the  present  values  for  the 
first  twenty  years  and  divide  by  the  69,804  which 
would  give  $317.60,  which  is  the  net  single  premium 
at  age  50  for  a  twenty-year  term  policy.  This  is 
less  than  the  preceding  net  premium  because  in  this 
case  we  assume  that  the  company  obligated  itself  to 
pay  $1000  only  to  those  who  died  during  the  next 
twenty  years.  Those  living  beyond  70  would  under 
such  an  assumption  be  paid  nothing.  However,  for 
very  obvious  reasons  few  persons  wish  to  pay  for 
their  insurance  at  one  payment,  although  such  a 
payment  can  be  made  for  a  policy  to  an  insurance 
company.  It  is  purchasing  protection  far  distant  in 
a  future  which  the  purchaser  may  not  live  to  enjoy. 
He  prefers  to  purchase  protection  as  he  lives,  that 
is,  by  installments  or  in  annual  periods.  That  is, 
the  ordinary  buyer  of  insurance  desires  to  pay  an- 
nual premiums  and  not  single  premiums.  It  is,  then, 
necessary  to  express  the  net  single  premium  in  net 
annual  premiums. 

As  we  proceed  to  calculate  other  forms  of  pre- 
miums, let  the  reader  remember  that  they  are  equiv- 


138  PRINCIPLES   OF  INSURANCE 

alent  in  value  to  the  single  premium.  As  the  first 
Th  Wh  l  s^eP  *n  calculatiug  the  net  annual  premium 
Life  Pre-  for  a  whole  life  policy,  we  must  make 
our  second  calculation  (6),  that  is,  calculate 
a  life  annuity  due.  An  annuity  due  is  the  pay- 
ment of  a  stated  sum  at  the  beginning  of  the  year  to 
a  person  as  long  as  he  lives.  It  is  thus  the  exact 
opposite  of  an  ordinary  life  policy,  since  the  latter  is 
paid  only  in  case  of  death.  The  value  of  the  annuity 
due  is  the  sum  which  the  company  must  receive  in 
order  to  make  its  annual  payments  at  the  beginning 
of  the  year  to  those  living.  Whereas  the  premium 
is  ordinarily  the  small  annual  sum  paid  in  order  to  re- 
ceive the  large  sums  at  the  close,  the  annuity  calls  for 
the  large  sum  paid  to  the  company  at  the  beginning 
in  order  that  it  may  pay  the  small  annual  sums  at 
the  beginning  of  each  year. 

The  value  of  the  annuity  is  calculated  in  the  same 
manner  as  the  single  premium.  Reverting  to  our 
first  example  of  1000  men  at  age  50,  of  whom  200 
die  the  first  year,  300  the  second  year,  and  500  the 
third  year,  the  problem  is,  how  much  should  each  of 
these  1000  men  pay  to  a  company  in  order  that  each 
shall  receive  $1  at  the  beginning  of  each  year  that 
he  is  alive  ?  Manifestly  %  1000  is  demanded  now  to 
pay  the  1000  now  living,  hence  there  is  no  interest. 
But  at  the  beginning  of  the  second  year  only  800  are 
alive  and  at  the  beginning  of  the  third  year  only 
500   are  alive.     That  is,  the  company  will  have  to 


THE  PREMIUM  139 

pay  out  a  total  of  $ 2300.  But  the  second  and  third 
payments  have  the  benefit  of  interest  for  one  and 
two  years,  respectively.  Therefore,  we  calculate  the 
present  worths  of  $1000  due  now,  $800  due  one  year 
from  now,  and  $500  due  two  years  from  now.  These 
amount  to  $2248.0172,  which  is  the  amount  that  the 
company  must  collect  now  in  order  to  pay  a  $1  annu- 
ity to  each  now,  and  to  each  of  the  survivors  at  the  be- 
ginning of  each  year  that  he  lives.  This  sum  divided 
by  1000  equals  $2,248,  which  is  the  sum  each  annui- 
tant must  pay  under  the  assumption,  if  he  is  to  receive 
the  $1  at  the  beginning  of  each  year  that  he  lives. 
If  now  we  substitute  the  American  Mortality 
.  Table  and  follow  the  same  process  of  calculation,  we 
find  that  the  value  of  a  life  annuity  at  age  50  is 
f  $  15.27  ;  that  is,  such  a  payment  made  by  each  of  the 
69,804  persons  at  age  50  will  secure  to  each,  a  pay- 
ment of  $1  now  and  a  like  payment  to  each  sur- 
vivor at  the  beginning  of  each  year  from  50  to  95  in- 
clusive. If  we  desire,  as  in  the  former  case,  to 
determine  the  sum  that  should  be  paid  by  each  of 
the  69,804  persons  at  age  50  in  order  to  purchase  a 
twenty-year  annuity  of  $1,  we  simply  calculate 
the  present  value  of  each  of  the  sums  demanded  at 
the  beginning  of  each  of  the  years  and  divide  it  by 
69,804.  This  is  $12.92,  a  less  sum  than  the  former, 
because  the  annuity  of  $1  does  not  need  to  be 
paid  by  the  company  to  each  person  surviving  beyond 
the  sixty-ninth  year  or  •twenty  years  beyond  fifty. 


140  PRINCIPLES   OF  INSURANCE 

The  purpose  in  calculating  an  annuity  was  to  use 
it  as  a  means  of  changing  the  net  single  premium 
into  a  series  of  net  annual  premiums.  We  have  seen 
that  atage  50  the  sum  of  $15.27  will  purchase  a  life 
annuity  of  $1.  That  is,  $1  can  be  paid  to  him 
now  and  at  the  beginning  of  each  year  to  which  the 
applicant  survives.  Therefore,  -$555.22,  the  net 
single  premium,  will  purchase  as  many  dollars  of  an 
annuity  as  $15.27  is  contained  in  it,  which  is  $36.36. 
That  is,  the  $36.36  paid  now  and  at  the  beginning  of 
each  year  to  which  the  person  survives  is  the  equiva- 
lent of  $555.22  paid  now  and  once  for  all  time. 
Since  this  $555.22  was  the  net  single  premium  for 
$1000  of  insurance,  so  must  its  equivalent,  the  $36.36, 
purchase  by  these  annual  payments  the  right  to  re- 
ceive $1000  insurance.  This  $36.36  is,  then,  the  net 
annual  premium  for  a  $1000  policy  on  the  whole  life 
plan  at  the  stated  age. 

It  must  be  evident  to  the  careful  reader  that  the 
method  of  calculating  the  payments  for  the  purchaser 
The  Term  wno  neither  wishes  to  pay  a  single  pre- 
Premium.  mium  nor  annual  premiums  throughout 
his  life  is  simple.  Suppose  he  wishes  to  pay  for  his 
$1000  life  policy  in  five  annual  payments.  We  must 
in  this  case  calculate  the  equivalent  of  $555.22  — 
the  single  premium  —  in  terms  of  a  five-year  annuity. 
By  the  previous  method  we  calculate  the  present 
values  of  the  sums  due  at  the  beginning  of  each  of  the 
five  years,  and  find  that  $4.5^>is  the  value  of  an  annu- 


THE  PREMIUM  141 

ity  temporary  for  five  years.  Dividing  this  into  the 
single  premium,  we  have  $121.08,  the  net  annual  pre- 
mium for  a  five-payment  life  policy  of  $1000  at  age  50. 
If  it  is  desired  to  calculate  the  net  annual  pre- 
mium for  a  twenty-payment  life  policy  of  $1000,  the 
same  method  is  used.     That  is,  we  calcu-   „, 

The  Limited 

late  the  value   of   an   annuity  temporary   Payment 
for  twenty  years,  the  first  payment  due  im-     renuum* 
mediately,  assuming  as  has  been  the  case   in  all  the 
illustrations  that  age  50  is  selected  and  the  American 
Mortality  Table  with  3  per  cent  interest  accumula- 
tions.    The  value  of  this  annuity  is   $12.92.     We 
then  divide  this  into  the  net  single  premium  for  a 
whole  life  policy,  a  sum  previously  calculated  to  be 
$555.22,  and  get  as  a  quotient  $42.95.     This  is  the* 
net  annual  premium  for  a  twenty -payment  life  policy 
of  $1000  at  age  50. 

There  remains,  then,  only  one  other  of  the  impor- 
tant premiums  to  be  calculated,  namely,  the  endow- 
ment   policy   premium.     An    endowment 
policy  premium  is  composed  of  a  pure  en-  mentPre- 
dowment    premium    and    a    term    policy 
premium.     A  pure  endowment   is   that    form   of   a 
policy  which  guarantees  the  payment  of  a  stated  sum 
on  condition  that  an  individual  lives  to  a  certain  date. 
In  case  of  death  previous  to  this  time  the  sum  named 
is  not  paid.     Such  policies  are  not  frequently  written 
and   the  words  "  endowment  policy  "   now   mean  a 
pure  endowment  policy  combined  with  a  term  policy. 


142  PRINCIPLES   OF  INSURANCE 

To  calculate  the  premium  on  such  a  policy  we 
must,  therefore,  calculate  the  premium  on  a  pure  en- 
dowment and  the  premium  on  a  term  policy.  The 
sums  of  these  will  be  the  premium  of  the  endowment 
policy.  The  problem  is :  calculate  the  net  annual 
premium  for  a  twenty-year  endowment  policy  at  age 
50.  We  first  determine  the  net  single  premium  for 
a  twenty-year  pure  endowment  policy  at  age  50. 
That  is,  for  what  sum  can  a  company  agree  to  pay 
$1000  to  each  of  the  persons  living  at  age  70?  By 
reference  to  the  mortality  table  we  learn  that  of  the 
69,804  persons  living  at  age  50  only  38,569  will  be 
living  at  age  70,  and  hence  the  assumed  company  will 
be  called  on  to  pay  out  $  38,569,000,  at  the  end  of 
twenty  years.  But  the  company  can  earn  for  twenty 
years  3  per  cent  interest  on  the  single  premium  to  be 
paid  now.  Hence  the  present  value  of  the  above  sum 
is  $21,354,729,  and  this  is  the  sum  to  be  collected  at 
once  from  the  69,804  persons.  Therefore,  the  net 
single  premium  would  be  $305.92.  But  again  few 
will  care  to  pay  single  premiums,  preferring  to  pay 
annual  premiums.  We  therefore  calculate  the  value 
of  a  $1  annuity  temporary  due  now  and  at  the 
beginning  of  each  of  the  succeeding  19  years.  This 
we  previously  found  to  be  $12,926.  Dividing  the 
single  premium  $305.92  by  12^926  we  have  $23.67, 
the  net  annual  premium  for  a  $1000  pure  endow- 
ment policy  at  age  50.  Adding  to  this  the  net  annual 
premium  for  a  twenty-year  term  policy,  $24.57,  we 


THE  PREMIUM  143 

have  $48.24  as  the  net  annual  premium  for  the  com- 
monly sold  twenty-year  endowment  policy  which  in 
this  case  was  at  age  50.  The  premium  for  the  twenty- 
year  term  policy  is  calculated  by  the  same  method  that 
the  five-year  term  premium  was  previously  calculated. 

It  must  be  evident  that  while  we  have  selected  age 
50  for  our  calculations,  any  other  age  could  have 
been  selected,  and  exactly  the  same  methods  would  be 
used.  The  student  should  familiarize  himself  with 
the  methods  by  calculating  for  different  ages  the  net 
single,  the  net  annual  pramiums  on  whole  life  policies, 
and  the  net  annual  premiums  for  limited  payment  and 
endowment  policies.  It  must  also  be  evident  to  the 
thoughtful  reader  that  the  net  premiums  of  com- 
panies which  use  the  same  mortality  table  and  the 
same  rate  of  interest  will  be  the  same  for  the  same 
kind  of  policy.  But  this  net  premium  is  not  the  one 
which  appears  in  the  rate  book  of  companies  nor  the 
premium  which  is  quoted  by  the  agent  as  the  price 
of  a  particular  policy.  It  is  the  gross  premium  which 
is  usually  meant  when  the  word  premium  is  used. 

The  gross  premium  is  the  net  premium  plus  the  ad- 
ditional sum  added  for  expenses  and  contingencies, 
which  added  sum  is  called  the  loading.  The  Gross 
The  earlier  method  of  loading  was  to  add  Premium, 
to  the  net  premium  a  certain  per  cent  of  itself.  It  is 
not  an  easy  matter  in  any  business  to  separate  and 
properly  assess  the  expenses  of  the  business,  and  in 
the  insurance  business  the  problem  is  particularly 


144  PRINCIPLES  .OF  INSURANCE 

difficult.  There  are  joint,  fixed,  and  variable  ex- 
penses, almost  defying  any  scientific  analysis.  For 
example,  the  expense  of  rent  is  largely  fixed.  An 
office  force  of  a  hundred  persons  is  required  to  transact 
a  certain  amount  of  business,  but  probably  an  addition 
of  fifty  persons  could  transact  twice  as  much  business. 
It  is  not  surprising,  therefore,  that  there  has  been 
considerable  difference  of  opinion,  and,  consequently, 
differences  in  the  practice  of  companies  in 

Loading. 

the  method  of  loading  policies.  Nor  is  it 
surprising  that  rough  and  ready  principles  have  often 
been  used,  which  later  investigation  has  shown  re- 
sulted in  loading  too  heavily  some  'forms  of  policies. 

The  3  per  cent  interest  assumed  is  theoretically 
redundant  enough  to  balance  the  losses  due  to  un- 
fortunate investments  because  the  companies  have  for 
many  years  earned  more  than  this  rate.  Likewise 
the  assumed  mortality  is  high  enough  in  comparison 
with  the  actual  mortality  to  make  up  for  all  contin- 
gencies that  arise  from  unexpected  mortality.  This, 
then,  leaves  the  loading  to  be  used  indiscriminately 
for  expense.  Now  it  is  evident  that  the  first  year's 
expenses  on  a  policy  are  greater  than  that  of  any  suc- 
ceeding year,  for  the  agent's  commission,  the  exam- 
iner's fee,  and  the  expense  of  issuing  the  policy,  each 
comes  in  the  first  year.  After  this  the  expenses  on  a 
single  policy  for  any  year  are  comparatively  small. 

In  view  of  these  facts  the  scheme  was  devised  of 
writing  policies  on  the  preliminary  term  plan.     That 


THE  PREMIUM  145 

is,  the  first  year  of  the  insurance  is  written  on  the  one- 
year  term  plan,  and  this  is  followed  by  Preliminary 
the  regular  policy  plan.  If  the  contract  is  Term  Plan, 
a  twenty -payment  life  policy  it  would  be  written  as  a 
one-year  term  policy,  followed  by  a  nineteen-payment 
life  policy.  This  does  not  mean  that  there  are  two 
contracts,  but  that  the  first  year  is  considered  term  in- 
surance. The  premium  collected  is  usually  the  same 
for  the  first  year  as  for  the  succeeding  years,  but  since 
the  first  premium  is  considered  as  purchasing  only 
one-year's  insurance,  it  does  not  need  to  make  any 
contribution  to  the  reserve.  There  is,  therefore,  a 
wide  margin  between  the  net  premium  for  the  one- 
year  term  insurance  and  the  actual  premium  collected. 
This  difference  is  used  to  meet  the  large  expenses  of 
the  first  year.  For  example,  the  net  one-year  term 
premium  for  $  1000  insurance  at  age  30  under  the 
American  Mortality  Table  at  3  per  cent  is  $8.18, 
while  the  quoted  premiums  for  a  twenty  payment 
policy  at  this  age  from  the  rate  book  of  a  company 
writing  insurance  On  the  preliminary  term  plan  is 
$31.72.  The  difference  is  the  sum  taken  for  the 
first  year's  expenses.  This  preliminary  term  plan  of 
writing  insurance  is  widely  used  both  in  America 
and  Europe.  Several  other  devices  are  in  use  to 
provide  for  the  large  expenses  incident  to  the  first 
year  of  insurance,  such,  for  example,  as  the  modified 
preliminary  term  plan,  the  select  and  ultimate  plan, 
but  each  has  the  same  purpose  in  view. 

L 


146  PRINCIPLES   OF  INSURANCE 

A  common  classification  of  expenses  of  an  insur- 
ance company  is  as  follows  :  (a)  new  business  ;  (6) 
collections  ;  (<?)  investments ;  (d~)  settlements ;  (e) 
general.  Even  assuming  that  proper  provision  has 
been  made  for  the  first  year's  expenses,  the  problem 

remains  of  determining  the  distribution 
Expenses.  ° 

of  expenses  other  than  those  due  to  new 
business.  In  other  words,  how  and  how  much  should 
the  regular  net  premium  be  loaded  ?  So  far  as  the 
expenses  can  be  definitely  fixed  and  determined,  a 
certain  percentage  of  the  net  premium  may  be  added 
to  it.  But  there  yet  remain  other  expenses,  such  as 
the  general  expenses,  which  are  varying,  and  for  which 
it  is  difficult  to  secure  a  satisfactory  basis  on  which 
to  calculate  this  part  of  the  loading. 

It  has  been  suggested  that  the  net  cost  of  insurance 
is  a  proper  basis  upon  which  to  add  these  general 
The  Amount  expenses.  At  age  56  the  amount  at  risk 
at  Risk.  during  the  first  year  on  a  $1000  whole  life 
policy  is  $970.10,  that  is  to  say,  it  is  the  face  of  the 
policy  less  the  reserve  at  the  end  of  the  first  year, 
which  is  set  aside  for  future  mortality.  The  amount 
of  risk  is  sometimes  called  self-insurance.  In  our 
hypothetical  company  of  the  63,364  persons  surviving 
to  age  56,  1260  will  die  during  the  following  year. 
If,  therefore,  the  company  had  insured  63,364  persons 
at  age  56^  the  expected  net  loss  would  be  1260  times 
1970.10  or  11,222,320.  This  is  the  cost  of  insurance 
for  the  first  year,  and  the  sum  divided  by  the  63,364 


THE  PREMIUM  147 

persons  living  at  the  beginning  of  the  year  makes 
the  annual  per  capita  cost  of  insurance  for  a  $1000 
whole  life  policy  at  this  age  #19.29.  This  sum,  it  is 
argued,  supplies  a  fair  basis  upon  which  to  determine 
the  loading  for  general  expenses.  Yet  this  is  a  some- 
what arbitrarily  selected  basis,  since  some  of  the 
general  expenses  bear  no  necessary  relation  to  it. 

A  method  of  loading  frequently  used  is  to  make  a 
certain  percentage  addition  to  the  net  premium  plus 
a  constant  sum.  A  fact  which  complicates  this 
subject  is  that  the  assumption  is  made  in  calculating 
the  net  premium  that  the  death  claims  are  made  at 
the  close  of  the  years  when,  as  matter  of  fact,  they  are 
distributed  throughout  the  year  with  an  average 
about  the  seventh  month.  This  means  that  on  the 
average  five  month's  interest  is  lost  on  death  claims. 
As  an  example  of  the  difficulty  of  assessing  expenses, 
what  is  a  proper  basis  upon  which  to  assess  advertising 
expenses  ? 

It  has  been  suggested  in  view  of  the  heavy  taxes 
levied  on  insurance  in  some  of  the  states  that  the 
premiums  on  policies  sold  in  the  offending  state 
should  have  their  normal  loading  increased.  It  is 
argued  that  this  would  serve  as  an  object  lesson  in 
the  incidence  of  insurance  taxes.  The  subject  of 
taxation  is,  however,  reserved  for  later  consideration. 

The  premiums  of  the  assessment  insurance  have 
been  discussed  in  a  previous  chapter  sufficiently  to 
indicate  their  character.     It  has  been  shown  that  the 


148  PRINCIPLES   OF  INSURANCE 

premium  of  the  industrial  policies  determine  the 
amount  of  insurance,  whereas  in  the  ordinary  insur- 
ance company  the  amount  of  the  insurance  deter- 
mines the  premium.  The  calculations  for  the  pre- 
miums for  industrial  insurance  are  made  in  much 
Premiums  ^ne  same  ma-nnei*  as  the  premiums  in  ordi- 
in  industrial  nary  companies,   although   the  industrial 

and  Frater-  .  .  . 

nai  Com-  companies  are  basing  their  premiums  more 
panies.  an(j  more  on  their  own  mortality  experi- 

ence. They  are,  however,  level  premiums.  The 
loading  in  industrial  insurance  premiums  is,  however, 
much  greater  than  in  the  ordinary  life  insurance  com- 
pany's premiums,  due  chiefly  to  the  higher  cost  of 
transacting  the  business. 

The  practice  of  assessment  and  fraternal  companies 
has  been  sufficiently  described  for  the  reader  to 
understand  that  it  is  impossible  to  give  such  an  ex- 
planation of  the  premium  calculations  as  in  the  regular 
and  industrial  companies.  In  some  of  these  compa- 
nies the  premium  is  simply  the  pro  ratio  mortality 
cost  of  the  year,  no  reserve  being  accumulated ;  in 
others  a  mortality  table,  such  as  the  National  Fraternal 
Congress  Table  of  Mortality,  is  used.  In  this  case 
the  premiums  are  determined  as  in  the  ordinary  com- 
pany, a  reserve  being  collected.  Some  of  the  frater- 
nal organizations  use  the  ordinary  mortality  tables, 
and  the  premiums  are  calculated  in  the  same  manner 
as  in  the  regular  companies  ;  some  claim  to  use  their 
own  mortality  experience  as  a  basis  of  calculating 


THE  PREMIUM  149 

the  premiums.  For  the  other  organizations  operating 
on  unscientific  plans,  no  logical  explanation  of  their 
premium  calculations  can  be  given. 

REFERENCES 

Notes  on  Life  Insurance.     Chaps.  I  and  VI.     The  Spectator 

Company. 
Yale  Readings  in  Insurance.     Vol.  I,  Chaps.  XI  and  XII. 
Annals  American  Academy  of  Political  Science.     Vol.  XXVI, 

pp.  229-242. 
Business  of  Life  Insurance.    M.  M.  Dawson.     Chaps.  VI  and 

XVIII. 
Educational  Leaflets.     The  Mutual  Life  Insurance  Company. 


CHAPTER   VII 


POLICIES 


The  policy  is  the  written  agreement  or  contract 
between  the  insurer  and  the  insured.  It  is  an  offer 
Definition  of  made  by  the  insurer  and  accepted  by  the 
a  Policy.  applicant,  who  thereby  becomes  the  in- 
sured. The  medical  and  inspection  departments  of 
the  company  after  investigating  the  physical  and 
financial  condition  of  the  applicant  certify  their  find- 
ings to  the  executive  department  of  the  company, 
which  then  offers  to  insure  the  applicant  on  such 
terms  as  the  previously  disclosed  findings  warrant. 
Ordinarily  the  contract  is  not  completed  until  the 
policy  has  been  delivered  to  the  applicant,  accepted 
during  his  good  health  and  the  first  premium  paid  by 
him.  In  some  cases  at  the  time  of  securing  the  ap- 
plication a  binding  receipt  is  given  for  the  premium 
then  paid.  This  is  an  advantage  to  the  applicant 
in  that  the  policy  is  in  force  as  soon  as  issued,  although 
it  may  not  be  in  the  possession  of  the  applicant.  It 
is  an  advantage  to  the  company  in  that  the  applicant 
cannot  refuse  to  accept  the  policy,  since  he  has  al- 
ready paid  the  first  year's  premium. 

There  are  usually  three  parties  interested  in  the 
contract  :  the  insurer,  the  one  who  assumes  the  ob- 

150 


POLICIES  151 

ligation  to  pay  the  insurance  ;  the  insured,  the  one 
upon  whose  life  the  insurance  is  written;  and  the 
beneficiary,  the  one  to  whom  the  insurance  is  payable. 
The  beneficiary  may  be,  under  some  forms  of  the  con- 
tract, the  insured.  The  state  is  also  interested  in 
seeing  that  the  terms  of  the  contract  are  fair  and  that 
both  parties  observe  its  terms. 

Life  insurance  policies  are  apparently  of  so  many 
different  kinds  that  beginning  students  of  the  sub- 
ject  are   likely  to   be   confused;    further   Classifica. 
study  of  insurance,  however,  discloses  the  tion  of  PoU- 

cies  accord- 
fact  that  the  seemingly  large  number  of  dif-  ing  to 

ferent  kinds  of  policies  can  all  be  reduced  Matunty* 
to  a  few  simple  forms.  The  contracts  seem  to  be 
numerous  because  of  the  many  combinations  of  the 
simple  forms.  Policies  may  be  classified,  first  and 
most  fundamentally,  according  to  the  manner  in 
which  they  mature.  First,  life  policies,  that  is,  poli- 
cies which  mature  only  upon  death  and  whose  pre- 
miums are  ordinarily  paid  annually  throughout  life. 

Second,  limited  payment  life  policies,  which  ma- 
ture at  death,  but  the  premium  paying  period  is 
completed  at  the  end  of  10,  15,  20,  25,  or  30  years. 

Third,  term  policies  which  provide  temporary  in- 
surance, that  is,  insurance  payable  only  if  death  occurs 
during  a  specified  period,  which  is  usually  5,  10,  15, 
or  20  years.  Term  policies  may  be  renewable  for 
successive  equal  periods,  or  they  may  be  nonre- 
newable.    A   yearly  renewable  term  policy   is   fre- 


152  PRINCIPLES   OF  INSURANCE 

quently  issued  with  increasing  premiums  and  hence 
becomes  a  natural  premium  whole  life  policy.  Re- 
newable term  policies  may  be  renewed  without  a 
medical  examination  at  the  close  of  the  period.  Term 
insurance  may  be  for  increasing  amounts,  as  in  the 
return  premium  feature  when  in  case  of  death 
within  a  certain  period  the  company  agrees  to  pay 
the  premium  up  to  the  time  of  death  in  addition  to 
the  face  of  the  policy.  Term  insurance  may  be  for 
decreasing  amounts,  as  when  taken  out  to  cover  a 
mortgage,  which  is  reduced  year  by  year.  The  in- 
surance decreases  with  the  amount  of  the  mortgage. 
In  order  to  secure  funds  for  expenses  companies  may> 
write  a  regular  policy  on  the  preliminary  term  plan, 
that  is,  make  a  twenty-payment  policy  a  one-year 
term  policy,  followed  by  a  nineteen-payment  life 
policy.  This  subject  will  be  discussed  further  when 
we  treat  of  the  premium  and  the  reserve. 

Fourth,  endowment  policies,  which  mature  in  case 
of  death  during  a  specified  period  or  in  case  of  sur- 
vival to  the  end  of  that  period.  This  policy  is  a 
combination  of  a  term  policy  and  a  pure  endowment 
policy,  which  pays  only  in  case  of  survival.  Endow- 
ment policies  are  usually  for  quinquennial  periods  of 
15,  20,  25,  30  years  or  mature  at  quinquennial  ages 
such  as  endowments  at  age  50,  55,  60,  65,  etc.  A 
double  endowment  pays,  for  example,  $2000  in  case  of 
survival  or  $1000  payable  in  case  of  death,  and  a 
semiendowment  pays   $500  in    case   of   survival  or 


POLICIES  153 

%  1000  payable  in  case  of  death.  Endowment  policies 
may  be  paid  for  by  annual  premiums  until  the  end 
of  the  endowment  period  or  they  may  be  paid  for  by 
a  limited  number  of  premiums,  that  is,  by  ten 
premiums,  fifteen  premiums,  or  twenty  premiums. 
In  this  event  they  are  called,  for  example,  a  ten-pay- 
ment twenty-year  endowment  policy. 

Policies  may  be  classified  in  the  second  place  on 
the  basis  of  dividends,  that  is,  participating  policies, 
those  which  share  in  the  earnings  of  the  ciassifica- 
company   and    nonparticipating    policies,  tionofPoii- 

,  •   ,      i  ,  .        i  .  cies  accord- 

those  which  do  not  share  in  the  earnings  ingto 
of  the  company  and  therefore  have  a  lower  Dlvldends- 
premium  than  the  participating  policies  of  the  same 
kind  and  for  the  same  age.     The  participating  poli- 
cies may  participate  annually,  quinquennially,  or  at 
longer  periods,  although  the  longer  periods  have  been 
forbidden  in  many  states.     The  dividends  may  be  used  I 
to  reduce  the  premium,  to  buy  additional  insurance,  v 
to  hasten  the  endowment,  to  shorten  the  premium  pay-  1 
ing  period,  to  accumulate  interest  with  the  company  * 
for  the  policyholder,  or  they  may  be  taken  in  cash.      i" 

In  the  third  place,  policies  may  be  classified  on 
the  basis  of  the  kind  of  premium,  that  is,  those  in 
which  the  premium  is  a  natural  premium,  ciassifica- 

a   single    premium,   or    the    level   annual  tionofPoii- 

cies  accord- 
premium.     In  this  classification,  the  first  ingto 

is  of  least  importance,  for  few  policies  are      emmms- 

written   on  this  plan.     Policies  in  assessment  soci- 


154  PRINCIPLES  OF  INSURANCE 

eties  may  be  written  with  premiums  below  or  above 
the  natural  premium,  although  this  premium  in 
theory  is  the  basis  of  the  assessment  plan  of  insur- 
ance. Some  policies  are  written  with  a  compara- 
tively low  premium  for  the  first  five  years  and  a 
larger  premium  thereafter  ;  others  are  written  with 
a  large  premium  to  begin  with,  and  the  premium  is 
reduced  by  fixed  amounts  at  stated  periods  thereafter. 
Again  policies  may  be  classified  on  the  basis  of 
the  character  of  the  settlement.  That  is,  the  policy 
Classifica-  ma^  Provide  at  maturity  for  a  cash  settle- 
tionofPoii-    ment,    for    installments,    for    bonds,    for 

cies  by  .   .  .  .  .. 

Modes  of  annuities,  or  tor  continuous  installments. 
Settlement.  jt  mugfc  not  be  understood,  however,  that 
it  is  intended  to  convey  the  idea  that  each  one  of  these 
plans  is  mutually  exclusive  of  all  others.  As  a 
matter  of  fact,  they  are  not.  For,  example  one  may 
purchase  by  a  single  premium  a  twenty-year  endow- 
ment policy,  the  settlement  of  which  may  be  in 
cash,  in  installments,   or  in  annuities. 

Again  any  ordinary  form  of  policy  may  be  pur- 
chased on  the  nonpar ticipating  plan.  Many  other 
different  combinations  of  the  previous  classifications 
may  be  made. 

The  most  important  classification  of  policies  is 
that  of  life,  term,  limited  payment  life,  and  endow- 
ment policies.  This  is  the  classification  ordinarily 
meant  when  a  person  speaks  of  the  different  kinds 
of   policies.     The   one   hundred   or   more    different 


POLICIES  155 

kinds  of  policies  are  usually  some  form  of  these  four 
kinds  of  policies. 

For  example  there  is  a  joint  life  policy  which  may 
be  purchased  by  husband  and  wife.  The  face  of 
such  a  policy  is  paid  upon  the  first  death  The  Joint 
—  that  is,  of  either  husband  or  wife.  Or  m*  Policy- 
a  joint  policy  may  be  purchased  by  a  group  of  men 
associated  in  business  which  is  payable  at  the  first 
death  of  one  of  the  partners  in  the  business.  There 
are  very  decided  objections  to  this  policy,  both  from 
the  standpoint  of  the  company  and  the  insured. 
Companies  usually  prefer  to  write  single  policies  on 
each  life  of  the  persons  desiring  protection.  In  the 
case  of  husband  and  wife,  if  the  latter  die  first,  the 
husband  may  not  then  be  insurable  at  this  latter 
date,  and  yet  he  may  have  obligations,  such  as  young 
children,  which  would  demand  that  he  have  insur- 
ance. If  each  had  carried  individual  policies,  all 
the  benefits  from  a  joint  policy  would  have  been 
realized  and  in  addition  the  children  would  be 
better  cared  for  in  the  event  of  the  death  of  the 
husband,  subsequent  to  that  of  the  wife.  In  the 
case  of  partners  in  business,  the  death  of  any  part- 
ner terminates  the  insurance, — the  protection, —  but 
if  there  are  more  than  two  members  in  the  firm, 
there  still  exists  a  reason  for  insurance  as  a  firm 
asset.  If  a  partner  withdraws  from  the  firm,  there 
is  no  reason  for  the  further  existence  of  the  joint 
partnership  policy,  whereas  if  there  had  been  individ- 


156  PRINCIPLES   OF  INSURANCE 

ual  policies,  the  withdrawal  of  a  member  of  the  firm 
would  have  simply  involved  the  change  of  the 
beneficiary. 

A  policy  somewhat  similar  in  purpose  to  this,  and 
one  that  is  becoming  more  numerous,  is  that  in 
which  a  corporation  takes  out  a  policy  in  its  favor 
upon  the  life  of  its  president  or  on  the  life  of  some 
expert  employee. 

There  is  also  a  return  premium  policy  in  which 
not  only  the  face  of  the  policy  is  paid,  but  also  a 
certain  portion  or  all  of  each  premium  is  returned  if 
death  occurs  within  a  specified  time.  This  manifestly 
calls  for  an  extra  premium,  and  the  objections  to 
such  a  policy  are  evident.  There  are  many  other 
forms  of  policies,  but  the  more  important  of  them 
will  be  considered  in  the  discussion  of  the  method 
of  settlement  of  policies  in  the  latter  part  of  the 
chapter. 

In  attempting  an  analysis  of  the  policy  contract 

it  is  difficult  to  make  statements  which  apply  in  all 

,    .     _     cases  to  the  different  policies  now  in  force. 

Analysis  of  * 

the  Policy  This  difficulty  arises  from  the  fact  that 
the  insurance  business  is  a  subject  for 
regulation  by  the  numerous  states  and  not  the 
national  government,  and  consequently  the  policy 
contract  is  theoretically  and  actually  in  many  cases 
what  the  various  legislatures  choose  to  make  it. 
Much  has  been  done  in  the  way  of  state  uniformity, 
but  much  yet  remains  to  be  done.     In  many  partic- 


POLICIES  157 

ulars  little  of  state  comity  has  been  recognized. 
The  characteristics  of  the  state  legislation  as  per- 
taining to  the  policy  contract  were  so  changed  after 
1905,  as  a  result  of  the  insurance  investigation,  that 
a  description  in  general  terms  of  the  policy  pro- 
visions previous  to  that  date  and  an  outline  of  the 
chief  requirement  adopted  since  1905  as  they  apply 
to  the  contract  are  given.  Let  not  the  reader  forget, 
however,  that  we  are  attempting  to  state  what  is 
true  of  forty-five  different  and  independent  states' 
regulations  and  also  what  is  true  of  several  times  that 
number  of  insurance  companies,  for  the  policy  con- 
tract is  in  part  what  the  different  legislatures  say 
it  shall  be,  and  in  part  what  the  different  companies 
wish  it  to  be. 

The  policy  contract  in  the  early  history  of  insur- 
ance  had   what   now   seem   very  many   harsh   pro- 
visions.    The  insured  had  practically  no 
privileges.     The  contract  was  a  whole  life  ment  of  the 
policy  contract  which  was  absolutely  null        cy* 
and  void,  not  only  for  failure  to  pay  premiums,  but 
also  for  changes  in  place  of  residence  and  occupation. 
Companies  could  easily  avoid  payment  of  the  policies 
because  warranties  and  not  representations  were  the 
rule,  with  the  consequence  that  many  of  the  insured 
lost   the   result  of  their  payments  for  many  years, 
since  warranties  must  be  absolutely  true  and  repre- 
sentations need  be  only  substantially  true.     Partly 
as  a  result  of  the  harsh  terms  of  this  contract  the 


158  PRINCIPLES   OF  INSURANCE 

whole  life  policy  as  a  form  of  insurance  came  into  an 
ill-repute,  from  which  it  has  not  yet  recovered.  This 
form  of  policy  deserves  greater  popularity  and  will 
certainly  have  it  when  the  purchasers  of  insurance 
learn  to  appreciate  its  merits.  The  average  agent 
does  not  make  much  effort  to  sell  this  policy  at 
present  because  he  often  does  not  recognize  its 
value,  and  also  because  it  is  usually  easier  to  sell 
some  other  form  of  a  policy  and  because  his  com- 
mission is  larger  on  the  larger  premium  policies. 

The  historical  development  of  the  form  of  the 
policy  was,  in  order,  a  whole  life  policy,  a  limited  pay-  \ 
ment  life  policy,  and  an  endowment  policy.  In  time 
there  was  developed  a  form  of  policy  which  provided 
for  an  annuity  to  the  beneficiary  only  after  the  death 
of  the  insured.  But  this  had  the  short-coming  that 
the  beneficiary  might  die  first  and  the  insured  would 
have  paid  premiums,  —  as  he  erroneously  argued, — 
on  which  nothing  was  given  in  return.  This  caused 
the  installment  plan  to  be  devised,  under  which  the 
proceeds  of  insurance  policies  are  paid  during  a 
stated  period  of  years,  usually  from  five  to  twenty. 
This  form  was  later  modified  so  that  not  only  the 
installments  certain  were  paid  during  the  period 
provided,  but  also  payments  of  equal  amounts  were 
made  to  the  beneficiary  if  the  beneficiary  lived 
beyond  the  period  named  in  the  installment  clause. 

The   policy   after    having    been   granted   by   the 
executive  department  of  the   company  does  not  as 


POLICIES  159 

a  general  rule  become  binding  on  the  company  until 
it  has  been  accepted  by  the  insured  in  good  health 
and  the  first  premium  has  been  paid  by  Terms  of  the 
him.     A  receipt  called  "the  binding  re-  Policy. 
ceipt"   may  be   issued   by  the   agent  for  the   pre- 
mium   which    is   paid    at  the  time  of  soliciting  the 
application.     This   binds   the    company  to  pay   the 
face  of  the  policy  as  soon  as  it  is  issued.     All  pre- 
miums are  paid  "in  advance."     Premiums  paymentof 
are   not   in   reality   paid    in    advance   for  Premiums, 
the  insured,  —  the  purchaser  —  gets  his  commodity  — 
protection  —  as  soon  as  he  receives  and  pays  for  the 
policy.     The  title  to  the  policy  may  rest  either  in 
the  insured  or  the  beneficiary,  depending  Title  to  the 
upon  whether,  under  the  terms  of  the  con-  Policy- 
tract,  the  insured  may  at  will  change  the  beneficiary. 
If  he  may  so  change  it,  then  the  beneficiary  has  only 
a  contingent  interest,  since  the  insured  may  at  any 
time  nominate  another  beneficiary,  such  as  his  estate 
or  another  party.     Otherwise  the  policy  can  be  trans- 
ferred to  another  only  by  assignment  by  the  insured. 
The  laws  of  the  greater  number  of  states  do  not 
make  the  proceeds  of  the  insurance  policy  an  asset 
for  meeting  the  debts  of  the  insured,  unless  insurable 
it  is  made  payable  to  his  estate,  or  unless  ^to*8*- 
possibly  the  creditors  can  prove  that  an   insolvent 
debtor  took  out  the  insurance  after  insolvency  with  | 
fraudulent  intent.     In  this  connection  the  question 
of  what  constitutes  an  insurable  interest  arises.     It 


160  PRINCIPLES   OF  INSURANCE 

♦  may  be  stated  that  this  interest  exists  in  all  cases 
when  the  proposed  beneficiary  is  dependent  upon  the 
insured  for  support,  or  is  his  creditor,  or  would 
suffer  a  monetary  loss  by  the  death  of  the  insured. 
Mere  affection  or  mental  anguish  does  not  constitute 
a  basis  for  an  insurable  interest.  Nor  does  relation- 
ship in  itself  establish  an  insurable  interest  unless,  as 
is  often  the  case,  the  relationship  involves  legal  claims. 
A  brother  may,  for  example,  have  an  insurable  interest 
in  a  brother  if  he  has  advanced  money  for  his  educa- 
tion. The  underlying  principle  of  the  insurance 
contract  is  indemnity,  that  is  to  say,  it  is  a  com- 
pensation for  a  loss  sustained.  It  therefore  follows 
as  a  consequence  that  the  idea  of  profit  is  excluded 
so  far  as  the  insured  is  concerned,  and  the  idea  of 
pecuniary  interest  included  so  far  as  the  one  having 
an  insurable  interest  is  concerned. 

The  amount  of  the  insurance  is  ordinarily  a  matter 
to  be  decided  by  the  company  and  the  insured,  but  if 
the  amount  of  the  insurance  taken  out  by  a  creditor 
on  the  life  of  his  debtor  is  far  in  excess  of  the  credi- 
tor's claims,  the  contract  may  be  declared  a  wager  by 
the  courts  and  therefore  be  illegal. 

It  must  be  understood  that  there  is  a  difference 
between  an  insurable  interest  and  the  right,  legal  or 
The  Bene-  otherwise,  of  the  insured  to  select  his  bene- 
ficiary, ficiary.  The  first  has  to  do  with  the  right 
of  A  to  take  out  insurance  on  B  in  favor  of  himself 
or  to  have  B  insure  himself  in  favor  of  A.     The  sec- 


POLICIES  161 

ond  has  to  do  with  the  right  of  B  to  select  his  bene- 
ficiary. It  is  becoming  increasingly  the  practice  of 
companies  and  courts  to  permit  the  insured  who  pays 
his  premiums  from  his  personal  income  to  select  whom- 
ever or  whatever  he  pleases  as  his  beneficiary,  since 
ordinarily  a  person  always  has  an  insurable  interest  in 
his  own  life.  This  practice  is  but  in  harmony  with  the 
general  principle  that  one  has  a  right  to  do  with  his 
own  as  he  chooses,  so  long  as  he  does  not  injure  others 
or  himself  in  the  disposition  which  he  makes  of  it. 
However,  neither  the  companies  nor  the  courts  could 
afford  to  encourage  crime  by  permitting  an  individ- 
ual to  take  out  a  policy  on  the  life  of  an  individual  in 
the  prolongation  of  whose  life  he  would  not  be  inter- 
ested. 

When  it  is  stated  that  the  insurance  contract  is  an 
unfair  one  because  the  insured  is  not  bound  to  con- 
tinue as  a  party  to  it  while  the  insurer  is  . 

f       J  Legal  Con- 

SO  bound,  it  must  be  remembered  that  the  stmction  of 

insurer  has  laid  down  in  the  contract  the 
conditions  —  or  has  accepted  the  conditions  as  fixed  by 
the  state  — under  which  alone  the  insured  may  discon- 
tinue as  a  party  to  the  contract.  Life  insurance  con- 
tracts, like  all  other  contracts,  are  construed  by 
the  courts  against  those  who  frame  them  on  the 
theory  that  the  makers  of  the  contract  have 
drawn  them  in  their  own  interests.  If  there 
is  an  apparent  conflict  between  clauses  in  the 
body  of  the  contract  and  clauses  attached  or  written, 


162  PRINCIPLES   OF  INSURANCE 

the  latter  take  precedence  over  the  former.  It 
is  customary  for  the  contract  to  contain  a  clause 
which  specifically  states  that  the  company  is  not 
bound  by  statements  of  the  agent ;  that  the  printed 
contract  is  the  sole  contract  between  the  company 
and  the  insured.  Undoubtedly  some  purchasers  of 
insurance  have  been  deceived  or  misled  by  the  state- 
ments of  agents,  but  recourse  does  not  ordinarily  lie  ty 
in  an  action  against  the  company  for  statements  made 
by  the  agent.  It  is  the  duty  of  the  buyer  to  acquaint 
himself  with  the  terms  of  the  contract  before  he  ac- 
cepts it.  It  may  well  happen  that  the  buyer  of  legal 
reserve  insurance  will  not  get  what  he  wants,  but  there 
is  little  danger  that  he  will  not  get  the  worth  of  his 
money  in  these  days  of  competition  among  the  old 
line  insurance  companies  and  the  state  regulation  of 
their  business.  Less  than  1  per  cent  of  the  claims 
against  insurance  companies  are  contested  in  the 
courts  by  the  companies.  It  is  also  significant  that 
the  companies  win  more  than  75  per  cent  of  these 
contested  claims,  for  no  company  will  contest  a  claim 
on  trivial  grounds. 

While  it  is  not  a  part  of  the  contract  it  is  a  prin- 
ciple of  all  companies  to  establish  the  minimum  and 
maximum  age  below  or  beyond  which  they  will  not 
write  policies.  The  lower  limits  vary  from  15  to  21 
years  of  age  and  the  upper  from  60  to  75.  The 
object  is  to  confine  the  premium  paying  period  to  the 
productive  years  of  life.     The  so-called  investment 


POLICIES  163 

policies  are  sold  by  some  companies  after  age  60  of 
the  applicant,  and  children's  policies  are  sold  by  in- 
dustrial companies  merely  to  cover  funeral  expenses. 
The  disability  clause  recently  included  in  the  policies 
of  some  of  the  companies  has  attracted  considerable 
debate.  It  usually  provides  for  a  cessation  The  Disabii- 
of  premiums  when  the  insured  becomes  *ty  Clause. 
totally  and  permanently  disabled  as  a  result  either 
of  bodily  or  mental  disease  or  accident.  In  some 
cases  the  period  of  insured  disability  is  limited,  that 
is,  it  does  not  extend  beyond  60  or  65  years  of  age. 
In  some  cases  the  company  offers  the  disabled  a  cash 
sum  in  cancellation  of  the  policy  or  agrees  to  pay  the 
face  of  the  policy  in  installments  or  grants  an  annuity. 
The  debate  on  this  clause  centers  around  two  points  : 
First,  how  much  of  an  addition  should  be  made  to  the 
regular  premium  for  this  clause,  or,  in  other  words, 
how  much  should  be  charged  for  the  disability  insur- 
ance. The  number  of  insured  individuals  or  even 
the  number  of  such  individuals  in  the  population 
group  who  thus  become  disabled  is  not  known.  The 
problem  of  cost  is  far  yet  from  solution,  but  a  very 
common  charge  is  either  25  or  50  cents  per  year  per 
$  1000  of  insurance.  In  some  states  the  life  insurance 
policies  may  not  contain  this  disability  clause.  It 
must  constitute  a  separate  policy  with  its  own  pre- 
mium and  terms.  In  Ohio,  the  disability  clause  may 
be  inserted  in  life  insurance  policies,  but  the  clause 
must  provide  for  its  own  premium  and  for  its  own 


164  PRINCIPLES   OF  INSURANCE 

cancellation,  so  that  the  clause  becomes  in  effect  an 
independent  contract. 

The  second  point  of  debate  is  the  determination  of 
what  constitutes  a  total  and  permanent  disability. 
An  answer  to  this  question  is  difficult  to  get  which 
is  satisfactory  to  the  contracting  parties.  An  appar- 
ently permanent  disability  sometimes  becomes  only 
temporary,  and  in  these  days  of  minute  division  of  labor 
a  disability  must  be  quite  complete  in  order  to  make 
the  insured  absolutely  unable  to  earn  anything.  In 
an  effort  to  make  this  clause  more  specific,  some  com- 
panies make  a  partial  definition  of  this  phrase  by 
stating  that  a  loss  of  both  eyes,  of  hearing,  or  of  both 
hands,  or  of  both  feet  constitutes  total  disability  and 
it  then  permits  the  remaining  causes  and  conditions 
of  disability  to  be  decided  later.  The  practical  ad- 
ministrative difficulties  are  not  thus  solved,  and  it  is 
very  questionable  whether  this  attempt  to  combine  in 
one  policy  life  and  accident  insurance  will  redound 
to  the  advantage  of  either  form  of  insurance.  It  is 
always  conducive  to  scientific  accuracy  to  have  as 
few  as  possible  varying  forces  about  which  to  treat 
in  insurance,  not  to  mention  the  administrative  diffi- 
culties which  are  always  present  in  applying  any 
scientific  principle. 

The  disclosures  which  were  made  as  a  result  of  the 
The  stand-  investigations  of  the  life  insurance  busi- 
ard  Policy.  ness  jn  1905  led  to  laws  establishing  a 
standard  policy  in  New  York,  but  this  soon  gave  way 


POLICIES  165 

to  standard  provisions  in  the  policies.  The  require- 
ment of  standard  provisions  is  now  the  general  rule 
in  most  states,  and  what  we  have  to  state  farther 
about  the  policy  contract  will  be  included  in  our 
description  of  these  standard  provisions. 

It  must  not  be  inferred  that  the  privileges,  or  the 
liberal  provisions,  as  they  are  called  in  present  poli- 
cies, were  adopted  wholly  as  a  result  of 
legislative  compulsion.  In  fact,  the  liber-  zation  of  the 
alization  of  the  policy  is  not  due  primarily 
to  legislative  enactment  but  to  the  following  causes : 
First,  in  the  early  days  of  insurance  no  data  had  been 
accumulated  to  determine  conclusively  that  the  pro- 
posed plans  could  be  successfully  applied.  To 
guarantee  solvency  as  completely  as  possible,  absolute 
forfeiture  was  provided  in  many  cases  in  order  that 
the  insurance  fund  might  be  augmented ;  extra 
premiums  were  required  for  a  change  of  occupation 
and  residence,  even  though  the  latter  was  in  the  same 
latitude  ;  premiums  paid  in  were  forfeited  in  case  of 
suicide,  death  at  the  hands  of  justice,  or  in  the  mili- 
tary or  naval  service,  or  if  the  statements  made  in  the 
application  were  untrue  in  any  respect.  When  ex- 
perience disclosed  that  many  of  these  restrictions 
were  unnecessary  and  the  decision  of  courts  failed  in 
some  cases  to  recognize  their  validity,  the  companies 
gradually  began  to  omit  the  harsher  restrictions. 
Second,  as  insurance  companies  became  more  numer- 
ous, the  competition  thus  brought  into  existence  did 


166  PRINCIPLES   OF  INSURANCE 

more  than  all  the  legislation  to  liberalize  the  insur- 
ance contract.  The  beneficent  effects  of  competition 
have  clearly  shown  themselves  in  the  case  of  the  in- 
surance business.  Companies  have  so  vied  with  each 
other  in  making  the  policy  contract  attractive  to  the 
purchaser  that  it  may  be  increasingly  true  that  one 
of  the  chief  functions  of  state  supervision  will  be  to 
compel  companies  to  keep  their  liberality  within  the 
bounds  of  safety.  The  above  statement  seeks  in  no 
manner  to  minimize  the  actual  accomplishments  of 
legislative  enactments  and  state  supervision,  but  the 
chief  work  in  liberalizing  the  contract  has  been  vol- 
untarily done  by  the  companies  as  a  matter  of  busi- 
ness. The  best  work  of  the  state  has  been  in 
establishing  standards  of  solvency  and  compelling,  by 
continuous  supervision,  the  companies  to  maintain 
these  standards. 

The  important  standard  provisions  of  policies  are 
as  follows  : 

First,  the  distribution  of  the  surplus,  that  is,  the 
payment  of  dividends,  must  be  made  annually  after 
standard  tne  third  year  of  the  policy.  In  some 
Provisions,  states  dividends  may  be  paid  quinquenni- 
ally.  The  details  of  this  provision  are  reserved  for 
discussion  in  a  succeeding  chapter. 

Second,  loans  must  be  granted  up  to  the  reserve 
value  of  the  policy,  less  a  small  deduction  of  not 
more  than  2|  per  cent  of  the  face  of  the  policy.  A 
failure  to  pay  the  loan  does  not  forfeit  the  policy 


POLICIES  167 

unless  the  total  indebtedness  should  exceed  the  re- 
serve value  of  the  policy  ;  and  then  30  days'  notice 
must  be  given  the  insured  before  canceling  the 
policy. 

Third,  the  policy  must  contain  a  copy  of  the  ap- 
plication, and  the  policy  with  the  application  must 
constitute  the  entire  contract.  All  statements  of  the 
insured  are  to  be  considered  as  representations  and 
not  warranties. 

Fourth,  one  month's  grace  must  be  permitted  for 
the  payment  of  any  premium  after  the  first. 

Fifth,  a  table  must  be  in  the  policy  which  shows 
the  loan  values,  and  nonforfeiture  values  in  case  pre- 
miums are  not  paid. 

Sixth,  reinstatement  must  be  granted  within  three 
years  after  a  premium  has  not  been  paid  upon  the 
payment  of  the  premiums  in  arrears  with  interest 
provided  the  insured  can  supply  evidence  to  the 
company  that  he  is  insurable. 

Seventh,  death  claims  must  be  paid  within  at  least 
sixty  days  after  due  proof  of  the  death  of  the  insured. 

Eighth,  a  table  must  be  in  the  policy  which  shows 
the  amount  of  installments  in  which  the  proceeds  of 
the  policy  may  be  payable. 

Ninth,  the  policy  must  definitely  set  forth  the  op- 
tions of  settlement.  The  policy  is  matured  either  by 
death  or  by  completion  of  the  contract,  as,  for  ex- 
ample, by  the  payment  of  all  premiums  in  the  case  of 
a   twenty-year   endowment   policy.      The    question 


168  PRINCIPLES   OF  INSURANCE 

then  arises,  How  shall  it  be  settled  ?  The  insured 
may  elect  to  receive  cash,  or  to  apply  the  cash  due  to 
the  purchase  of  increased  insurance  or  of  an  annuity. 
In  a  great  many  policies  he  may  elect  to  receive  a 
part  of  the  cash  due  and  the  remainder  in  install- 
ments. In  fact,  one  can  purchase  a  contract  from  a 
life  insurance  company  which  will  provide  for  almost 
any  kind  of  a  settlement  upon  maturity  of  the  policy. 
Tenth,  a  clause  which  provides  that  the  insured  in 
case  he  defaults  his  premiums  shall  not  forfeit  his 
insurance,  but  shall  be  entitled  to  receive 
either  paid  up  insurance  or  extended  in- 
surance or  a  cash  sum.  These  sums  must  be  equal  at 
least  to  the  reserve  held  on  the  policy  and  the  divi- 
dends due  on  the  policy  less  any  indebtedness  on  it 
and  less  a  sum  not  in  excess  of  2J  per  cent  of  the 
face  of  the  policy. 

The  causes  which  have  been  responsible  in  most 
cases  for  a  forfeiture  are  (a)  nonpayment  of  pre- 
mium when  it  was  due  ;  (6)  residence  in  an  un- 
healthy climate,  change  of  occupation,  or  suicide ; 
(c)  fraud  in  obtaining  a  policy;  (c?)  the  absence  of 
an  insurable  interest.  The  last  two  causes  have  not 
been  modified  to  any  extent  by  the  action  of  legis- 
latures or  by  the  companies,  except,  as  we  shall  see 
later,  a  definite  period  is  fixed  within  which  actions  at 
law  must  be  instituted  to  determine  whether  fraud- 
ulent means  have  been  used.  The  first  and  second 
reasons  for  forfeiture  have  been  very  materially  modi- 


POLICIES  169 

fied,  both  by  law  and  action  of  the  companies.  The 
Massachusetts  legislature  under  the  leadership  of 
Elizur  Wright,  its  noted  insurance  commissioner,  led 
the  way  in  requiring  nonforfeiture  provisions  in  a 
policy  when  it  required  all  companies  doing  business 
in  that  state  to  grant  a  retiring  policyholder  extended 
insurance.  This  law  was  passed  in  1861.  The 
length  of  time  the  insurance  was  extended  beyond 
the  date  of  withdrawal  was  determined  as  a  matter 
of  course  by  the  reserve  value  of  the  policy. 

We  shall  remember  that  in  level  premium  insur- 
ance the  policyholder  pays  more  than  the  natural 
premium  or  cost  of  his  insurance  in  the  early  years 
and  accumulates  a  reserve  and  pays  perhaps  less  than 
the  cost  in  the  later  years.  Many  of  the  companies  at 
this  time  were  paying  either  surrender  or  cash  values, 
but  the  companies  did  not  incorporate  in  the  policy 
what  some  were  doing  in  practice.  A  cash  surrender 
clause  did  not  appear  in  any  policies  until  1869  and 
did  not  become  a  general  practice  whether  made  a 
part  of  the  policy  or  not,  until  very  recent  years. 
Both  the  cash  surrender  value  and  the  extended  in- 
surance, which,  as  its  name  implies,  is  extending  to  a 
future  period  the  face  of  the  policy  after  premiums 
are  no  longer  paid,  were  feared  by  the  company  offi- 
cials.    They  feared  an  unfavorable  selection. 

Forfeiture  on  account  of  a  change  in  residence  or 
occupation  has  tended  to  disappear  on  account  of 
the  better  knowledge  of  regions,  dangers  of  occu- 


170  PRINCIPLES   OF  INSURANCE 

pations,  and  better  understanding  of  sanitary  and 
hygienic  principles.  The  companies  now  refuse  to 
insure  those  who  live  in  certain  districts  or  those 
who  are  engaged  in  certain  occupations.  The  few 
insured  lives  who  do  go  to  these  unfavorable  regions 
or  engage  in  hazardous  occupations  do  not  appear  to 
produce  serious  results  on  the  mortality  experience  of 
the  companies.  An  example  may  be  given  of  what 
this  nonforfeiture  meant  fifty  years  ago  in  compari- 
son with  policies  now  written  by  a  reference  to  the 
policy  provisions  of  one  of  the  large  life  insurance 
companies'  policies.  The  purchaser  agreed  fifty 
years  ago  that  his  policy  became  null  and  void  if  with- 
out the  company's  consent  he  passed  beyond  the 
settled  limits  of  the  United  States  or  Canada  or  even 
visited  those  parts  of  the  United  States  west  of  longi- 
tude 100  °.  Nor  could  he  go  south  of  Virginia  and 
Kentucky  in  the  summer  time  or  live  within  ten 
miles  of  the  Mississippi  or  Missouri  rivers  south  of 
latitude  40°.  All  service  on  boats  or  trains  was  for- 
bidden, as  well  as  military  service  except  in  time  of 
peace.  Death  by  suicide,  duelling,  and  execution  by 
the  state  voided  the  policy.  At  present  all  policies 
in  this  company  are  free  from  restrictions  of  resi- 
dency, travel,  or  occupation,  and  failure  to  pay  the 
premium  after  two  full  premiums  have  been  paid  does 
not  void  the  policy. 

Eleventh,  a  clause  must  be  in  the  policy,  which 
provides  that  the  policy  is  incontestable  after    two 


POLICIES  171 

years  for  practically  all  causes  except  the  nonpay- 
ment of  the  premium.  Some  companies  have  vol- 
untarily made  their  policies  incontestable  inC0ntesta- 
after  one  year.  By  contestability  is  meant  bmty- 
the  right  of  the  company  to  contest  in  the  courts  any 
claim  which  arises  under  the  policy  contract.  There 
has  been  much  discussion  of  this  clause,  both  as  to  its 
advisability  and  as  to  the  extent  to  which  it  binds 
the  company.  It  is  a  means  of  affording  greater  se- 
curity to  the  older  policyholders.  Its  adoption  has 
manifestly  led  to  the  withdrawal  of  other  restrictions 
since  if  this  clause  is  binding  on  the  company,  the 
latter  is  not  free  to  resist  any  claims  made  upon  it  by 
a  policyholder  who  has  violated  any  one  of  the  many 
earlier  restrictions  of  the  policy.  It  led  to  a  with- 
drawal of  many  of  these  former  restrictions.  The 
question  naturally  arises,  Should  a  company  be  thus 
prevented  from  resisting  the  payment  on  a  policy 
which  was  obtained  by  fraud?  Does  public  policy 
demand  that  the  wit  and  ingenuity  of  the  company 
officials  should  be  pitted  against  that  of  the  individ- 
ual who  seeks  to  obtain  for  himself  or  others  money 
by  fraudulent  means  ?  In  actual  practice  it  means 
that  the  company  must  discover,  before  issuing  the 
policy  or  within  a  comparatively  short  part  of  the 
time  that  the  contract  runs,  whether  fraud  has  been 
used;  It  has  been  held  (Reagon  v.  Insurance  Com- 
pany, 76  N.  E.  Reporter,  217)  that  a  provision  in  a 
life  policy  which  makes  it  incontestable   for  fraud 


172  PRINCIPLES   OF  INSURANCE 

from  date  of  issue  is  invalid  but  that  such  a  provision, 
operative  after  a  certain  date,  is  valid.  There  is 
without  doubt  a  danger  from  making  the  policies  too 
liberal  in  this  particular,  not  so  much  because  the 
financial  security  of  the  company  is  seriously  injured, 
but  rather  in  thus  permitting,  if  not  encouraging, 
fraud.  This  clause  indicates  more  forcibly  than  does 
any  other  the  reaction  that  has  taken  place  against 
the  harsh  restrictions  of  the  old  policy  contract.  The 
companies  have  sought  to  make  their  policies  more 
attractive  by  thus  liberalizing  them,  and  the  modifi- 
cations have  resulted  more  from  business  competition 
than  from  legislative  or  judicial  action. 

Twelfth,  a  title  on  the  face  and  on  the  back  of 
the  policy  correctly  describing  the  same. 

In  addition  to  the  above  standard  provisions,  there 
are  also  standard  prohibitions  which  are  required 
standard  with  a  view  of  protecting  the  policy- 
Prohibitions.  nolcler.  Among  these  prohibitions,  the 
following  important  ones  may  be  mentioned :  — 

First,  the  failure  to  pay  a  loan  or  the  interest  on  it 
may  not  forfeit  a  policy  if  the  total  indebtedness  is  less 
than  the  loan  value  and  in  no  case  can  forfeiture  for 
this  failure  take  place  before  the  policyholder  has  been 
notified  at  least  one  month  previous  to  the  forfeiture. 

Second,  no  policy  may  contain  a  provision  limiting 
the  time  within  which  any  action  at  law  or  in  equity 
may  be  commenced  to  less  than  five  years  after  the 
cause  of  action  shall  accrue, 


POLICIES  173 

Third,  no  clause  may  be  included  by  which  the  policy 
shall  purport  to  be  issued  or  to  take  effect  before  the 
original  application  for  the  insurance  was  made,  if 
thereby  the  insured  would  rate  at  a  younger  age  than 
his  actual  age  at  the  time  at  which  application  was 
made.  This  clause  permits  only  the  age  at  the  nearest 
birthday  to  be  taken  and  prevents  "  dating  back  "  of 
policies,  a  method  of  rebating  practiced  by  some 
agents. 

Fourth,  no  provision  is  permitted  for  a  settlement 
at  maturity  of  less  value  than  the  amount  insured  on 
the  face  of  the  policy  plus  any  dividend  additions 
and  less  any  indebtedness. 

Fifth,  no  policy  can  be  issued  until  the  form  has 
been  filed  and  approved  by  the  insurance  commis- 
sioner. This  prohibition  is  intended  to  prevent 
the  numerous  "  frill "  policies,  designed  to  attract 
the  impressionable  purchaser,  but  which  had  little 
to  commend  them.  Both  the  standard  provisions 
and  the  standard  prohibitions  are  now  used  in  many 
states. 

There  is  little  prospect  that  the  problem  of  monop- 
oly will   have   to   be   met   in   the  insurance  world. 
The  principle  of  diminishing  returns  oper-  Absence  of 
ates    very     clearly.         Other     conditions  Monopoly  in 

the  Insur- 

preventing  a  monopoly  are  :   (a)  the  com-  ance  Busi- 
parative  ease  of  organizing  new  companies,   ness' 
both  on  account  of  the  small  amount  of  capital  re- 
quired and  the  comparative  ease  with  which  legal 


174  PRINCIPLES   OF  INSURANCE 

requirements  may  be  met.  Potential  competition 
is  always  present,  although  the  number  of  new 
companies  which  are  organized  and  prove  success- 
ful is  not  large.  However,  the  economies  to  be  se- 
cured by  consolidation  of  many  companies  with  a 
view  of  establishing  monopolistic  conditions  are 
not  important. 

(5)  The  local  pride  that  is  taken  in  a  home  in- 
surance company. 

(<?)  The  disproportional  increase  in  variable  ex- 
penses, such  as  agency  force  and  office  expenses,  after 
a  certain  size  of  the  business  is  reached. 

(d)  The  increased  difficulty  of  finding  desirable 
investments  for  the  increased  funds  of  the  company 
as  it  becomes  larger. 

Only  indirect  reference  has  been  made  to  annuities, 

but  they  have  an  important  relation  to  the  business  of 

insurance.     Insurance  companies  not  only 

Annuities.  ...  ,.    .         .  , 

sell  insurance  policies,  but  also  annuities. 
Annuities  also  arise  in  the  case  of  levying  inheritance 
taxes  when  a  proper  basis  is  sought  for  levying  this 
tax  by  a  calculation  of  the  value  of  life  estates,  tem- 
porary estates,  joint  life  estates,  survivorship  estates, 
and  contingent  estates.  Since  the  basis  upon  which 
the  annuities  are  calculated  is  much  the  same  as  that 
upon  which  insurance  policies  are  calculated,  that  is, 
the  mortality  table  and  the  compound  interest  prin- 
ciple, a  brief  description  of  the  different  kinds  of  an- 
nuities may  be  given. 


POLICIES  175 

An  annuity  is  a  sum  of  money  payable  at  stated 
intervals  so  long  as  the  annuitant  is  alive. 

The  practice  of  granting  annuities  is  very  old,  a 
Roman  law  of  40  B.C.  having  laid  down  the  condi- 
tions under  which  annuities  could  be  granted. 
Tables  were  drawn  up  from  the  very  early  experience 
on  annuitants  which  have  been  made  more  exact 
from  later  experience  just  as  in  the  case  of  the 
ordinary  mortality  table.  The  actual  experience  on 
annuitants  varies  from  that  on  insured  lives  from  the 
fact  that  no  one  will  purchase  an  annuity  unless  he 
feels  confident  that  his  physical  conditions  give  good 
promise  of  longevity.  An  annuity  contract  is  issued 
to  any  one  without  a  medical  examination,  for  it  is 
evident  that  the  sooner  the  annuitant  dies  the  greater 
the  gain  is  to  the  company.  In  this  respect  an  an- 
nuity is  the  opposite  of  life  insurance. 

The  chief  kinds  of  annuities  are  : — 

First,  an  annuity  contingent  in  which  the  begin- 
ning or  continuance  of  the  amount  is  contingent  on 
the  occurrence  or  nonoccurrence  of  a  particular  event 
involving  the  duration  of  one  or  more  lives. 

Second,  an  annuity  deferred  in  which  the  pay- 
ment begins  only  after  a  certain  time,  as,  for  example, 
when  an  annuity  begins  after  a  period  of  twenty 
years. 

Third,  an  annuity  due,  which  is  a  life  annuity,  the 
first  payment  of  which  is  now  due. 

Fourth,  a  joint  life  annuity,  in  which  the  annuity 


176  PRINCIPLES   OF  INSURANCE 

is  payable  to  two  or  more  persons,  the  payments  ceas- 
ing upon  the  first  death. 

Fifth,  a  survivorship  annuity,  which  is  a  life  an- 
nuity in  which  the  payments  to  one  or  more  persons 
are  contingent  upon  these  persons  surviving  one  or 
more  other  persons.  Such  a  contract  may  be  pur- 
chased by  a  husband  in  favor  of  his  wife  for  a  com- 
paratively small  sum  and  is  sometimes  called  a 
reversionary  annuity. 

An  annuity  certain  is  a  payment  of  a  certain  sum 
of  money  annually  for  a  given  period  of  time. 
Sometimes  an  annuity  certain  is  classed  with  an- 
nuities, but  it  is  not  correctly  so  classed  for  the 
annuity  certain  does  not  depend  fundamentally  on 
the  life  of  the  recipient.  It  is  a  fixed  sum  to  be 
paid  for  a  fixed  period  of  time  and  therefore  involves 
only  the  interest  principle  and  in  no  way  the  mor- 
tality table.  In  those  states  in  which  a  life  insurance 
company  is  prohibited  from  doing  a  banking  business, 
a  life  insurance  company  could  not  issue  an  annuity 
certain,  which  is  really  a  banking  business.  How- 
ever, the  holder  of  a  life  insurance  policy  may  provide 
in  his  policy  for  the  payment  at  his  death  of  its 
proceeds  in  installments  of  a  fixed  number  and 
amount  which  is  an  annuity  certain.  It  is  always 
stipulated  that  if  the  beneficiary  should  not  live  to 
receive  all  the  installments,  the  remaining  install- 
ments —  or  their  commuted  value  —  will  be  paid  to 
some  other  person. 


POLICIES  177 

The  sale  of  annuities  by  insurance  companies  has 
never  assumed  great  importance  in  the  United  States, 
but  in  England  the  practice  both  by  the  insurance 
companies  and  by  the  government  has  been  more 
prevalent. 

We  reserve  for  later  discussion  the  subject  of 
policy  comparison  and  that  of  buying  insurance  in 
which  connections  we  shall  again  revert  to  the  pro- 
visions of  a  policy  contract  in  order  to  understand 
the  significance  of  particular  clauses. 

REFERENCES 

Dawson,  Miles  M.     The  Business  of  Life  Insurance.     Chaps. 

X,  XI,  XII,  XX,  XXIV,  XXVI. 
Graham,  W.  J.     The  Romances  of  Life  Insurance.     Chap.  IV. 
Yale  Readings.    Vol.  I,  Chaps.  XV,  XVI,  XVII,  XX. 
Report  of  the  New  York  Joint  Committee  of  the  Senate  and 

Assembly  on  Life  Insurance,  1906.     pp.  415-416,  435-437. 
Alexander,  William.    The  Life  Insurance  Company.    Part  I. 
Walford,  Cornelius.     Cyclopedia  of  Insurance. 
Wolfe,  S.  H.     Inheritance  Tax  Calculations. 


The  Reserve. 


CHAPTER   VIII 

THE   RESERVE,    SURPLUS,    AND   DIVIDENDS 

We  have  seen  in  the  previous  chapter  that  the 
net  annual  premium  collected  by  the  insurance  com- 
panies, operating  on  the  level  premium 
plan  is  in  excess  of  the  actual  cost  of  the 
insurance  during  the  early  years  of  the  contract,  but 
below  the  cost  in  the  latter  years.  This  excess  of 
the  earlier  years  is  accumulated  into  a  sinking  fund 
or  a  reserve  to  meet  the  deficiencies  of  the  later 
years.  The  reserve  is  the  difference  between  the 
present  value  of  the  benefits  promised  in  the  policies 
and  the  present  value  of  the  net  annual  premiums  to 
be  collected  in  the  future.  Therefore,  the  reserve  is 
sometimes  called  the  unearned  premium  income. 
This  assumes  that  all  the  net  annual  premiums  at  a 
given  date  have  been  paid  and  that  the  future  expe- 
rience will  be  in  harmony  with  the  calculated  expe- 
rience. This  fund  together  with  the  later  annual 
premiums  received  and  the  interest  accumulations 
will  pay  for  that  protection  which  is  promised  at 
that  later  date  when  the  net  premiums  are  less  than 
the  annual  costs.  Recalling  our  illustration  of  the 
rectangle  and  the  triangle  and  thinking  of  a  single 
life  insured  on  the  level  premium  plan,  the  reserve 
originates  from  the  excess  collections  in  the  early 

178 


THE  RESERVE,   SURPLUS,  AND  DIVIDENDS     179 

years  which  are  used  to  balance  the  deficient  collec- 
tions in  the  later  years. 

If  each  of  the  members  of  the  theoretical  insurance 
company  starting  with  100,000  members  and  insuring 
no  new  lives  would  pay  his  single  net  premium,  this 
would  constitute  a  fund  which  with  its  interest  ac- 
cumulations would  be  sufficient  to  pay  the  future 
death  claims.  From  one  point  of  view  the  reserve  is 
also  called  the  reinsurance  fund,  that  is  to  say,  it  is 
such  a  collected  fund  that  the  original  company  or 
any  other  company  could  meet  all  its  obligations  by 
the  proper  care  of  this  fund,  augmented  by  future 
collections  from  policyholders.  It  is  on  account  of 
the  accumulation  of  this  sinking  fund  that  old  line 
level  premium  companies  are  able  to  close  up  their 
business  by  selling  or  reinsuring  their  business  in 
another  company.  This  assumes  that  the  lives  have 
been  properly  selected.  If  this  is  not  the  case,  or  if 
the  company  and  its  investment  have  not  been  prop- 
erly managed,  another  company  might  not  be  willing 
to  assume  these  obligations  on  the  basis  of  the  rein- 
surance reserve  held  for  these  risks. 

In  order  to  understand  the  method  of  determining 
the  reserve,  let  us  take,  for  an  example,  the  company 
of  100,000  persons  insured  under  the  Amer- 
ican  Mortality  Table  on  a  3  per  cent  in-  calculating 
terest  basis.     At  age  50  only  69,804  are 
living,  and   the    company  promises  to  pay  to  each 
11000  at  death.     It  has  been  shown  that  the  single 


180  PRINCIPLES   OF  INSURANCE 

premium  for  such  a  policy  at  this  age  is  $555.22. 
The  total  collections  by  the  company  must,  then,  be 
sufficient  with  the  annual  interest  additions  to  mature 
all  of  its  obligations.  The  company  will,  therefore, 
collect  at  the  beginning  of  the  fiftieth  year  a  total  of 
$38,756,576.88,  which  will  draw  a  3  per  cent  interest, 
making  the  total  sum  at  the  close  of  the  year 
$39,919,274.18.  From  this  sum  the  death  claims 
of  $962,000  must  be  paid,  leaving  $38,957,274.19. 

This  last  sum  may  be  called  the  terminal  reserve 
which  divided  by  the  number  now  living,  68,842,  gives 
The  Termi-  $565.89,  which  is  the  individual   reserve 

dMduid  Re-  at  the  close  of  the  fifty-first  year  of  age. 
serve.  In  a  like  manner  this  sum  will  accumulate, 

and  payments  will  be  made  from  it  on  account  of 
death  claims  until  under  our  assumptions  there  will 
be  in  the  ninety-fifth  year  of  age  just  enough  with 
the  interest  accumulations  of  that  year  to  pay  the 
final  claims  of  the  three  expiring  policyholders.  It 
can  be  seen  from  the  above  example  that  the  aggre- 
gate reserve  or  the  reserve  held  for  all  policies  in 
this  assumed  company  is  a  continually  decreasing 
sum,  but  that  the  individual  reserve  is  annually  in- 
creasing. It  must  also  be  evident  that  the  individual 
reserve  at  the  close  of  any  year  of  age  is  the  single 
premium  for  $1000  of  insurance  on  the  ordinary  life 
plan  at  the  attained  age.  For  example,  the  individual 
reserve  at  the  close  of  the  fifty-fifth  year  of  age  is 
$621.18,  and  this  is  also  the  single  net  premium  for 


THE  RESERVE,   SURPLUS,  AND  DIVIDENDS     181 

any  person  at  age  56  who  wishes  to  become  a  mem- 
ber of  the  company.  Those  who  have  become  mem- 
bers earlier  have  provided  for  their  insurance  by 
paying  once  for  all  a  sum  which,  on  account  of  its 
longer  interest  accumulations,  is  smaller  than  this 
sum ;  and  the  new  member  must  pay  a  larger  sum, 
although  he  is  of  the  same  age  as  the  other  members. 
It  is  necessary  for  him  to  do  this  in  order  to  equalize 
the  difference  in  length  of  membership  or  in  other 
words  to  balance  the  effect  of  the  interest  accumula- 
tions. We  have  seen,  however,  that  few  persons  care 
to  pay  the  single  premium,  but  prefer  to  pay  annual 
premiums  which  it  has  been  shown  must  be  collec- 
tively the  mathematical  equivalent  of  the  single 
premium.  Likewise  it  may  be  shown  that  the  reserve 
accumulated  from  annual  premiums  will  be  as  effec- 
tive as  that  accumulated  from  the  single  premiums. 

We  have  found  that  the  annual  premium  at  50 
years  of  age  for  a  whole  life  §1000  policy  under  the 
American  Mortality  Table  at  3  per  cent  is  §36.36.  If 
each  of  the  69,804  members  now  living  pay  this  sum, 
the  amount  at  the  close  of  the  year  with  its  3  per  cent 
interest  accumulations  will  be  §2,615,215.64.  From 
this  sum  the  §962,000  death  claims  will  be  paid,  leav- 
ing §1,653,215.64  as  the  terminal  reserve  at  the  close 
of  the  first  year  of  the  policy  which  divided  by  the 
68,842  then  living  at  age  51  gives  §24  as  the  individ- 
ual reserve  at  the  close  of  the  first  policy  year.  But 
we  have  just  shown  that  the  individual  reserve  in  the 


182  PRINCIPLES   OF  INSURANCE 

case  of  the  single  premium  was  far  greater  than  the 
sum  just  calculated.  Again  the  net  annual  premium 
for  a  person  age  51  is  not  $21,  the  individual  reserve 
of  the  last  calculation.  Can  the  company  be  said  to 
be  equally  as  solvent  as  in  the  first  case  ?  If  so,  how 
shall  we  reconcile  these  apparent  discrepancies  ? 

The  explanation  is  to  be  found  in  the  difference  in 

the  terms  of  the  contract.     In  the  first  case,  that  of 

a  single  premium,  the  company  agreed  to 

1  he  Reserve 

under  the  pay  to  each  policyholder  at  his  death  $1000 
mium  equiv-  because  each  paid  the  large  sum,  the  single 
alent  to  that  premium,  once  and  for  all  time.     In  the 

under  the 

Single  Pre-  latter  case  the  insured  agreed  to  pay  the 
$36.36  at  the  beginning  of  each  year  dur- 
ing life.  If  he  lives  throughout  the  year  and  does 
not  pay  his  second  premium  the  company  is  not  under 
obligation  to  pay  the  $1000  at  his  death.  It  is  true, 
since  it  is  a  net  annual  level  premium  and  not  a  net 
annual  natural  premium,  that  he  has  more  than  paid 
for  his  protection  and  therefore  a  sum  can  be  returned 
to  him  as  a  cash  surrender  value  which  is  based  upon 
the  difference  of  these  two  premiums,  for  the  company 
is  then  freed  from  any  future  obligations  to  him. 
Let  us  notice  further  how  the  discrepancy  is  removed. 
If  the  company  has  the  promise  of  each  to  pay  annu- 
ally these  net  premiums,  may  it  not  take  credit  for 
their  present  value  as  an  offset  to  the  present  value 
of  its  promised  benefits  ?  At  age  50  there  were  liv- 
ing 68,812  persons,   each  of   whom  agreed  to  pay 


THE  RESERVE,   SURPLUS,  AND  DIVIDENDS     183 

$36.36  annually  as  long  as  he  lived.  The  question 
then  is,  What  is  the  present  value  of  these  future  pay- 
ments ?  The  value  at  age  51  of  an  annuity  of  $1 
paid  at  the  beginning  of  the  year  and  at  the  begin- 
ning of  each  subsequent  year  is  on  3  per  cent  interest 
accumulation  §11.9045.  Therefore,  the  value  of 
$36.36  would  be  11.9015  times  this  sum  or  $541.9286 
for  each  of  the  68;842  persons  and  for  all  of  them 
$37,307,448.68.  This  sum  added  to  the  aggregate 
terminal  reserve  at  the  close  of  the  first  policy  year 
under  the  net  annual  premium  paying  plan  beginning 
at  age  50  equals  $38,960,664.32,  the  aggregate  term- 
inal reserve  at  age  51  under  the  net  single  premium 
paying  plan.  The  small  difference  would  disappear 
if  decimals  had  been  used  in  the  calculation.  Thus 
the  small  reserve  on  the  annual  premium  policy  is 
just  as  effective  as  the  large  reserve  on  the  single 
premium  policy.  Again,  the  present  value  of  the 
$36.36  premium  is  $541.92  (36.36  times  $14.9045), 
and  this  sum  subtracted  from  $565.89,  the  individual 
reserve  under  the  net  single  premium  plan,  leaves 
$23.97,  or  practically  $24,  the  individual  reserve  under 
the  net  annual  premium  plan. 

In  the  same  manner  the  reserve  may  be  calculated 
for  limited  payment  policies  as  well  as  for  The  Reserve 
the   endowment   policies.      In   the   latter  °nLimited 

r  Payment 

case,  for  example,  the  net  annual  premium    Polities, 
for  a   twenty-year  endowment  policy  of    $1000   at 
age  50  upon  a  3  per  cent  interest  basis  is  $48.24. 


184  PRINCIPLES   OF  INSURANCE 

From  this  is  subtracted  the  net  mortality  cost  of  this 
year,  that  is,  the  net  natural  premium  for  $1000  in- 
surance at  age  50,  which  is  $13.38.  The  remainder, 
$36. 30,  is  the  terminal  individual  reserve.  Continuing 
the  calculation  or  applying  the  method  previously 
described  in  detail,  it  will  be  found  that  at  the  be- 
ginning of  the  twentieth  year  of  the  policy  there  will 
be  an  initial  reserve  of  $970.88,  which  with  the  3  per 
cent  interest  accumulation  will  be  exactly  sufficient 
to  mature  the  policy  of  $1000. 

It  will  thus  be  seen  that  there  is  nothing  myste- 
rious about  the  reserve.     It  is  not  to  be  compared,  as 

was  done  by  the  early  supporters  of  assess- 
sity  for  the     mentism,  to  a  fifth  wheel  in  a  wagon.     It  is 

the  indispensable  requisite  of  scientific  in- 
surance on  the  level  premium  plan,  and  as  it  has  been 
previously  shown  that  the  natural  premium  plan  is 
in  practice  impossible,  the  reserve  becomes  the  sine 
qua  non  of  all  insurance.  It  is  not  the  result  of  leg- 
islative enactments,  but  is  the  cause  of  most  laws 
which  have  reference  to  it.  It  is  a  deposit  and  a 
convenience  for  the  policyholder  and  not  a  source  of 
profit  for  the  company.  The  reserve  is  not  an  asset, 
but  a  liability  by  which  the  annual  premium  is  kept 
from  increasing  in  face  of  the  increasing  risk  against 
which  it  protects  the  policyholder. 

A  general  rule  for  obtaining  the  reserve  on  any 
policy  is  to  obtain  the  present  value  of  the  benefits 
promised   by  the  company  and  subtract  therefrom 


THE  RESERVE,   SURPLUS,  AND  DIVIDENDS     185 

the  present  value  of  the  future  payments  promised 
by  the  insured.  The  reserve  must  be  kept  continu- 
ously invested  at  compound  interest  an-   ^  ,   . 

J  r  Rule  for  cal- 

nually  at  a  rate  at  least  one  half  of  1  per  cuiating  the 
cent  higher  than  the  rate  used  in  calculat-         rve* 
ing  the  premiums  in  order  to  cover  the  investment 
expenses. 

The  reserve  of  an  insurance  company  cannot  be 
accurately  compared  with  the  reserve  of  a  bank. 
The  purpose  in  view  of  the  collection  is  The  Reserve 
different  in  the  two  cases.     If   any   ele-  not  compa- 

.  .  rable  with  a 

ment  of  comparison  can  be  made,  it  exists  Bank  Re- 
between  the  reserve  of  an  insurance  com-  serve* 
pany  and  the  deposits  of  a  bank,  since  in  each  case 
these  are  the  amounts  received  from  the  persons 
with  whom  the  bank  and  the  insurance  company 
are  doing  business.  They  are  respectively  the 
debits  to  the  patrons  of  the  two  companies.  The  re- 
serve of  a  bank  is  only  a  small  part  of  its  obligations 
to  the  depositors.  Nor  does  the  percentage  existing 
between  the  reserve  and  deposits  of  a  bank  and  the 
reserve  and  the  face  value  of  the  policies  in  an  insur- 
ance company  bear  any  definite  relation.  The  bank 
has  obligated  itself  to  pay  to  its  depositors  all  their 
deposits,  but  an  insurance  company  obligates  itself 
to  pay  the  face  of  the  policies  only  in  the  event  that 
the  policyholders  continue  to  pay  the  specified  an- 
nual premiums.  In  an  effort  to  understand  the  in- 
surance business,  attempts  are  often  made  to  compare 


186  PRINCIPLES   OF  INSURANCE 

its  funds  with  those  of  a  bank,  but  such  comparisons 
usually  result  in  greater  confusion. 

The  term  "  surplus  "  is  used  in  two  leading  senses 
when  applied  to  the  insurance  business :  first,  that 
sum  which  remains  at  the  close  of  any  cal- 
endar year  after  death  claims  and  the  cur- 
rent expenses  of  conducting  the  company  have  been 
paid;  second,  the  sum  remaining  after  current  ex- 
penses, annual  death  claims,  and  the  reserve  is  de- 
ducted. It  does  violence  to  the  ordinary  meaning 
of  the  word  surplus  to  apply  the  first  definition.  A 
somewhat  parallel  example  would  be  for  a  person  to 
borrow  #32,000  to  engage  in  agriculture.  Suppose 
he  pays  $30,000  for  the  farm  and  12000  for  equip- 
ment and  at  the  close  of  the  year  finds  that  he  has 
$3000  as  a  result  of  his  farming.  He  would  not  be 
justified  in  claiming  that  he  has  a  surplus  of  $1000 
because  he  has  $1000  remaining  after  he  pays  for  his 
equipment.  Nor  would  $500  be  his  surplus,  if  he  al- 
lowed $500  for  his  services,  for  he  owes  $32,000  for 
the  farm  with  the  interest  thereon.  Just  so  the  life 
insurance  company  cannot  call  a  surplus  all  that 
sum  which  remains  after  the  current  year's  expenses 
and  death  claims  are  paid.  A  sum  equal  to  the  ag- 
gregate reserve  on  all  policy  obligations  must  be  set 
aside. 

Let  us  again  consider  the  net  premium  in  order 
that  we  may  understand  the  composition  and  origin 
of  the  surplus.     It  will  be  recalled  that  a  company 


THE   RESERVE,   SURPLUS,   AND  DIVIDENDS     187 

assumed  that  a  certain  rate  of  interest  could  be 
earned  and  also  assumed  from  the  mortality  tables 
a  certain  number  of  claims  would  fall  due.   _ 

Composition 

It  was  able  then  to  calculate  the  sum  which  and  Origin  of 
it  would  need  to  collect.  To  this  sum, 
the  net  premium,  it  made  certain  additions,  called 
loading,  for  the  purpose  of  covering  expenses  and 
contingencies.  There  would  thus  be  three  main 
sources  from  which  a  surplus  might  be  secured, 
namely,  interest,  mortality,  and  loading.  That  is 
to  say,  a  saving  might  be  effected  from  any  one  or 
all  of  these  sources. 

The  rate  of  the  interest  which  the  insurance  com- 
panies assume  that  they  can  earn  on  their  assets  has 
always  been  conservative,  and  in  actual  interest 
practice  they  have  been  able  to  earn  more  Savings- 
than  the  assumed  rate.  The  rates  now  most  gen- 
erally assumed  are  3  per  cent  and  3^  per  cent.  The 
expenses  incurred  in  investing  the  assets  are  charged 
against  the  interest  income.  Since  these  invest- 
ment expenses  may  amount  at  least  to  one  half  of 
1  per  cent  on  the  assets,  it  is  necessar}r  to  earn 
sufficient  to  cover  the  investment  expenses  in  addi- 
tion to  the  interest  at  the  assumed  rate  before  there 
is  any  surplus  from  interest.  Many  of  the  old 
policies  now  in  force  on  the  books  of  insurance 
companies  were  issued  on  a  4  per  cent  interest 
assumption  and  on  the  reserve  of  such  policies,  4 
per  cent  interest  must  be  earned  in  addition  to  the 


188  PRINCIPLES   OF  INSURANCE 

investment  expenses  before  there  is  any  surplus  for 
these  policies  from  interest. 

We  pass  next  to  the  subject  of  mortality  saving. 
The  company  has  assumed  a  certain  death  loss  and 
Mortality  ^  the  actual  mortality  is  below  the  ex- 
Saving.  pected,  a  saving   will   be   effected.     The 

importance  of  this  saving  may,  however,  be  easily 
overemphasized.  If  the  company  had  based  its 
premiums  on  a  mortality  table  of  the  general  popula- 
tion, the  mortality  saving  might  constitute  a  per- 
manent addition  to  the  surplus,  provided  it  had 
used  care  in  selecting  the  persons  for  insurance. 
But  the  tables  of  mortality  now  in  use  are  based  on 
the  experience  of  insured  lives  after  the  benefit  of 
selection  has  disappeared.  The  actual  results  are 
therefore  likely  to  approach  through  a  long  series 
of  years  the  calculated  results,  although  by  a  careful 
selection  of  new  insurants  the  actual  experience  may 
be  kept  below  the  assumed.  If,  however,  a  very 
favorable  mortality  is  experienced  for  a  series  of 
years,  this  suspended  mortality  as  it  is  called  may 
become  actual  mortality  later.  The  important  point 
in  this  connection  is  to  understand  that  these  claims 
must  be  paid  and  whatever  of  gain  there  is  to  come 
to  the  company  results,  not  from  writing  off  the 
face  of  the  claims,  but  simply  from  the  added  number 
of  premiums  the  company  collects  and  larger  interest 
accumulations  on  the  sums  which  continue  to  draw 
interest  after   the  time  at  which  it  was  calculated 


THE  RESERVE,   SURPLUS,  AND  DIVIDENDS     189 

they  would  fall  due  by  death  claims.  Therefore, 
it  would  not  seem  wise,  for  a  mutual  company  at 
least,  to  consider  the  total  sum  as  an  addition  to  the 
surplus  for  the  purpose  of  distributing  it  as  annual 
dividends.  It  is  evident  that  the  mortality  ex- 
perience of  one  year  is  no  criterion  by  which  a  com- 
pany can  be  guided.  The  mortality  may  fluctuate 
from  year  to  year  and  hence  a  part  of  a  large  saving 
in  mortality  in  one  year  may  wisely  be  retained 
from  the  dividends  of  that  year  in  order  to  balance 
a  smaller  saving  in  mortality  in  a  later  year  and  so 
prevent  marked  decreases  in  dividends.  An  ex- 
amination of  the  annual  mortality  experience  of 
most  insurance  companies  will  disclose  the  fact  that 
the  actual  mortality  is  less  than  the  calculated. 

The  third  source  of  the  surplus  is  from  loading. 
If,  for  example,  the  net  premium  has  had  an  addition 
of  25  per  cent  made  to  it  for  expenses  and  _    . 

r  r  Savings 

contingencies  which  is  20  per  cent  of  the  from  Load- 
gross  premium  and  only  12  per  cent  of  mg' 
the  gross  premium  is  used,  there  is  a  margin  of  8  per 
cent  left  to  accumulate  from  each  year's  premiums 
at  compound  interest.  The  word  contingencies 
used  in  connection  with  expense  has  a  rather  in- 
definite meaning,  but  so  far  as  it  means  an  abnormal 
death  rate  due,  for  example,  to  a  plague,  it  has  little 
importance.  It  has  little  more  importance  so  far  as 
it  refers  to  continually  unfavorable  investments,  for 
as  we  shall  see  later  the  investments  are  so  widely 


190  PRINCIPLES   OF  INSURANCE 

distributed  in  respect  to  regions  and  kinds  of  loans, 
that  abnormal  returns  on  the  funds  as  a  whole  are  not 
likely  to  be  experienced  for  any  considerable  number 
of  years. 

The  discussion  of  saving  from  loading  is  therefore 
taken  as  referring  to  expense.  This  is  a  subject  of 
very  great  importance  in  the  business  of 
tance  of  life  insurance,  for  in  no  other  business 
are  the  evil  effects  of  excessive  expense 
so  vital.  The  desire  for  new  business  on  the  part 
of  strongly  competing  old  companies  as  well  as  on 
the  part  of  the  newly  formed  company  seeking  to 
establish  itself  has  been  so  great  that  one  state  has 
considered  it  necessary  to  lay  down  the  limit 
of  expense  for  new  business.  In  no  other  commer- 
cial enterprise  are  the  evil  effects  of  unregulated 
competition  more  clearly  shown.  The  evil  effects 
of  abnormal  expense  do  not  show  themseves  imme- 
diately after  the  expenditure,  as  in  most  kinds  of 
business  and  hence  the  greater  fortitude  required 
to  resist  the  temptation  to  increase  rapidly  the  busi- 
ness of  a  new  company.  The  new  company  in  the 
early  years  will  have  collected  sums  far  in  excess 
of  the  death  claims,  both  on  account  of  the  excess 
premiums  of  those  years  and  the  low  mortality. 
No  purchaser  of  insurance,  however,  should  be  de- 
luded into  thinking  either  a  new  or  an  old  company 
excellent  because  it  has  written  a  large  volume  of 
new   business,   for  the  amount   of   new   business  is 


THE  RESERVE,   SURPLUS,  AND  DIVIDENDS     191 

in  itself  no  proof  of  present  wisdom  or  future 
prosperity.  The  initial  expense  of  insuring  new 
members  is  necessarily  very  large.  This  expense 
together  with  the  mortality  cost  and  the  required 
statutory  reserve  is  greater  than  the  premium  in- 
come for  the  first  year  in  full  reserve  companies 
and  frequently  is  equal  and  sometimes  in  excess  of 
the  first  year's  premium  even  in  preliminary  term 
companies. 

If  sufficient  insurance,  both  as  to  number  of  policy- 
holders and  amount  of  insurance,  has  been  obtained 
so  that  average  results  are  secured,  the 
policyholders  might  be  satisfied  to  insure  canceofnew 
only  sufficient  lives  thereafter  to  meet  the 
canceled  policies.  If  it  is  a  company  selling  partici- 
pating policies  only,  and  average  results  are  being 
received,  there  may  be  no  gain  by  increasing  abso- 
lutely its  membership  because  the  larger  member- 
ship means  that  the  profits  are  distributed  among 
a  greater  number.  This  may  be  illustrated  by  an 
example  from  the  business  world.  Suppose  A  places  f 
$100,000  in  a  business  and  secures  $5000  profit  but 
later  takes  in  a  partner,  B,  with  $100,000  capital. 
At  the  close  of  the  second  year  suppose  there  is 
$10,000  profit  but  A  has  gained  nothing  by  the 
partnership.  It  is  true  he  has  given  B  an  oppor- 
tunity to  engage  in  business,  but  this  is  worth  noth- 
ing to  him  in  a  financial  sense.  Just  so  an  insurance 
company  may  take  in  new  members,  but  this  does  not 


192  Principles  Of  Insurance 

necessarily  mean  that  the  net  cost  of  the  insurance  to 
the  old  policyholder  is  less. 

This  point  is  stated  with  emphasis  for  the  reason 
that  it  has  been  the  subject  of  much  erroneous  discus- 
sion in  these  later  days  of  big  companies  and  new 
companies.  We  do  not  overlook  the  fact  that 
the  insurance  business  is  one  which  in  certain 
respects  is  subject  to  the  law  of  decreasing  cost. 
Having  an  office  force,  the  business  can  often  be 
increased  many  per  cent  without  any  very  great 
increase  in  this  part  of  the  expense.  It  is  mani- 
festly impossible  to  lay  down  hard  and  fast  rules 
to  determine  the  amount  of  new  business  which  a 
company  should  write.  It  is  absolutely  necessary  to 
write  sufficient  new  business  to  secure  average 
results  for  the  company  and  to  maintain  the  average 
results  in  the  old  company  whose  policies  are  being 
continually  matured  by  death  or  otherwise.  Quality 
rather  than  quantity  of  new  business  will,  however, 
be  the  rule  of  all  good  companies.  Certainly  noj 
obligation  rests  upon  an  insurance  company  to  extend 
its  business  because  it  is  a  means  of  encouraging 
thrift,  for  however  important  to  society  the  inculca- 
tion of  thrift  is,  the  insurance  company  is  not 
primarily  a  philanthropic  organization  for  the  pur- 
pose of  teaching  social  morals.  It  is  a  business 
corporation  organized  chiefly  for  the  profit  of  its 
members.  The  company  is  to  be  judged,  then,  not 
by  the  volume  of  its  business,  but  by  the  ratio  of  the 


THE  RESERVE,   SURPLUS,  AND  DIVIDENDS     193 

expense  to  the  premiums  on  the  new  business 
acquired.  The  specific  legal  requirements  regarding 
expense  will  be  discussed  in  a  later  chapter.  The 
.surplus,  then,  arises  chiefly  from  the  savings  from 
mortality,  the  savings  from  interest,  and  the  savings 
from  the  loading. 

The  subject  of  lapses  in  relation  to  the  surplus 
may  be  considered  at  this  point  on  account  of  its 
significance  in  the  past  when  lapsing  policy- 

Lapses  in 

holders  were  treated  with  much  less  liber-  Relation  to 
ality  than  at  present.  In  the  earlier  days 
of  insurance  the  policyholder  who  discontinued  the 
payment  of  premiums  often  received  no  return  from 
the  company,  regardless  of  the  length  of  time  that  he 
had  been  paying  premiums.  In  the  case  of  some 
individuals  who  lapsed,  their  past  payments  produced 
an  addition  to  the  surplus,  but  the  additions  from 
this  source  were  often  much  less  than  was  commonly 
believed,  and  this  for  two  reasons  :  — 

First,  because  the  better  lives  were  more  likely  to 
lapse  and  hence  an  increased  or  unfavorable  mortality 
experience  resulted  ;  second,  there  was  an  additional 
expense  of  securing  a  new  risk  to  take  the  place  of 
the  old  one,  which  at  the  beginning  of  the  contract  had 
the  proportionate  share  of  the  expense  assessed  against 
its  premium.  Even  if  the  new  risk  was  as  good  as 
the  lasped  one,  the  insurance  fund  would  not  be  the 
same  because  two  subtractions  have  been  made  from 
it  to  secure  a  policyholder.     At  the   present  time 


194  PRINCIPLES   OF  INSURANCE 

profits  from  lapses  are  small,  owing  to  the  liberal 
surrender  values  whether  granted  voluntarily  to  the 
policyholder  in  his  policy  by  the  company  or  made 
compulsory  by  statute.  It  is  understood  from  the 
previous  discussions  that  the  first  year's  expenses  are 
necessarily  large.  The  law  now  requires  that  a  cash 
sum,  based  on  the  reserve  value  of  the  policy  be  paid 
to  the  lapsed  member,  usually  after  the  third  policy 
year,  although  some  companies  voluntarily  grant  such 
a  cash  surrender  value  earlier.  Provision  has  been 
made,  either  by  the  preliminary  term  plan  or  some 
modification  of  it  for  the  large  expense  of  the  first 
policy  year.  This  was  not  the  case  in  the  earlier  years 
of  insurance  and  hence  the  gain  from  lapsed  mem- 
bers, numerous  as  they  sometimes  were,  often  was 
exaggerated  in  the  popular  mind. 

As  a  result  of  the  New  York  insurance  investiga- 
tions, that   state   enacted  a   law  which  limited  the 

amount  of  surplus  which  a  company  could 
Limitation  of  hold.     It  varies  from  20  per  cent  to  5  per 

cent  of  the  reserve  liabilities,  the  former 
being  the  percentage  in  the  case  of  smaller  companies 
and  the  latter  referring  to  companies  whose  re- 
serve liabilities  are  over  seventy-five  millions  of 
dollars.  This  was  done  on  the  ground  that  a  large 
surplus  was  a  continual  temptation  for  misappro- 
priation or  misuse  by  the  officials  of  the  company 
and  also  because  it  was  thought  that  no  large  surplus 
need   be   held   for   such   contingencies  as  excessive 


THE  RESERVE,   SURPLUS,  AND  DIVIDENDS      196 

mortality  or  deficient  interest  earnings.  It  was 
argued  that  the  surplus,  being  the  property  of  the 
policyholders,  should  be  returned  to  them  either  in 
the  form  of  dividends  or  lower  premiums.  This 
assumes  that  a  large  surplus  is  not  an  indication  of 
conservative  management  in  the  life  insurance  busi- 
ness. There  is  not,  it  is  argued,  anything  in  the  life 
insurance  business  to  correspond  to  a  conflagration 
in  the  fire  insurance  business.  The  only  parallel 
that  could  be  found  would  be  a  plague  or  possibly 
continued  and  widespread  unprofitable  investments, 
each  of  which  is  considered  by  the  law  makers  a  too 
remote  possibility  to  deserve  important  consideration. 
Only  such  a  surplus  should  be  held  as  is  necessary 
to  make  possible  uniform  dividends  which  the  tem- 
porary fluctuations  in  the  mortality  rate  and  interest 
earning  might  disturb. 

After  a  contingent  reserve  is  set  aside  out  of  the 
general  surplus,  the  remainder  may  be  called  divi- 
dend surplus  or  divisible  Surplus.  The  The  Divisible 
dividends  are  that  part  of  the  overcharges  Sun>lus- 
which  the  officials  of  the  company  decide  may  safely 
be  returned  to  the  policyholders.  This  fund  is 
sometimes  called  the  profit  or  interest  fund,  but  it 
will  contribute  to  a  better  understanding  of  insurance 
if  a  more  careful  use  of  the  words  is  preserved. 
Profit  is  the  chance  element  in  production  and  could 
be  properly  applied  to  the  life  insurance  business  in 
two  cases      First,  in  the  early  days  of  insurance  when, 


196  PRINCIPLES   OF  INSURANCE 

on  account  of  the  high  rate  of  lapses  and  the  terms 
of  the  contract,  considerable  sums  were  forfeited  to 
the  company  ;  second,  when  a  pure  stock  company 
sells  nonparticipating  policies  and  by  unusually 
good  investments  is  able  to  sell  insurance  at  a  low 
net  cost  and  still  has  a  fund  to  divide  among  the 
stock  holders. 

The  profits  constitute  a  fund  out  of  which  real 
dividends  are  paid.  Nor  should  interest  be  confused 
™.   ~  with  dividends.     Interest  is  the  sum  paid 

The  Charac-  r 

ter  of  Divi-  by  the  borrower  to  the  lender  for  the  use 
of  capital.  It  is  a  guaranteed  return  as  in 
the  case  of  bonds,  mortgages,  collateral  loans,  or 
personal  security.  The  policyholder  is  neither 
guaranteed  an  interest  nor  promised  a  dividend. 
He  agrees  to  purchase  an  article  —  indemnity  —  the 
cost  of  which  cannot  be  exactly  determined  at  the 
time  of  purchase  on  the  condition  that  any  excess 
payment  in  the  case  of  a  participating  policy  will  be 
returned  to  him.  In  case  of  a  nonparticipating 
policy  the  possible  excess  cost  is  discounted  in  the 
form  of  a  lower  premium. 

The  only  sources  of  income  for  an  insurance  com- 
pany are  the  present  and  future  premiums  from  its 
policyholders  and  the  returns  from  the  investments 
of  the  assets  which  have  been  accumulated  from  past 
premiums.  If  this  income  is  in  excess  of  the  needs 
of  the  company,  the  practical  question  arises,  How 
shall    the    overcharges    be    returned  to    the   policy- 


THE  RESERVE,   SURPLUS,   AND  DIVIDENDS     197 

holders  ?  In  other  words,  How  shall  the  company- 
determine  the  amount  of  the  so-called  dividend  which 
shall  be  paid  to  each  ?  We  assume  that  the  amount 
which  is  held  for  the  reserve,  and  the  contingent  re- 
serve has  already  been  accurately  determined.  A 
question  now  arises  which  is  not  easily  decided  and 
one  upon  which  there  is  much  difference  of  opinion, 
namely,  the  distribution  of  dividends. 

In  the  earlier  days  of  insurance  it  was  the  practice 
to  distribute  the  surplus  earnings  on  the  basis  of  a 
percentage  of  the  premium  without  re-  The  methods 
gard  to  the  kind  of  policy  or  length  of  °f  A.PP°r- 
time  that  the  policy  had  been  in  force.  Dividends. 
The  chief  error  in  this  plan  was  that  a  policy  in  its 
later  years  received  no  more  than  in  its  earlier  years 
when,  as  a  matter  of  fact,  its  large  reserve  accumula- 
tion was  contributing  annually  from  its  interest 
earnings  a  greater  sum  to  the  surplus  which  was 
being  divided.  This  percentage  plan  had  little  to 
recommend  it  other  than  its  simplicity,  and  it  was 
generally  superseded  by  the  contribution  plan. 

This  plan  is,  as  its  name  implies,  the  method  by 
which  it  is  sought  to  return  to  each  policy  that  share 
in  the  surplus  which  it  has  contributed.   _    „ 

r  The  Contri- 

It  takes   into  consideration   the    kind   of  bution 
policy,  its  duration,  and  the  age  of  the  in- 
sured.    A  policy  is  credited  for  any  given  year  with 
the  terminal  reserve  of  the  preceding  year,  the  annual 
premium  of  the  current  year  and  the  interest  earned 


198  PRINCIPLES   OF  INSURANCE 

therefrom  during  the  year.  It  is  debited  with  the 
proportionate  share  of  the  expenses  of  the  year  which 
this  policy  should  bear,  the  mortality  cost  of  the 
insurance  for  the  year,  and  the  reserve  for  the  end 
of  the  year.  The  difference  constitutes  the  accumu- 
lations on  this  policy.  If  the  total  of  the  amounts 
so  calculated  for  each  policy  should  exceed  the  amount 
which  has  been  set  aside  for  distribution,  a  pro  ratio 
reduction  is  made.  If  the  policy  has  been  debited 
with  an  $8  contribution  to  the  annual  mortality 
and  the  actual  mortality  is  only  75  per  cent  of  the 
calculated,  there  is  then  only  $6  to  be  paid  and 
the  % 2  is  that  part  of  the  entire  surplus  contributed 
by  this  policy,  so  far  as  mortality  surplus  is  concerned. 
Likewise  if  3  per  cent  is  the  interest  assumed  and  5 
per  cent  net  is  earned,  the  2  per  cent  is  a  surplus  ;  and 
if  the  initial  reserve  for  the  year  is  $100,  this  policy 
will  secure  $2  from  this  source.  Similarly,  if  the 
loading  is  $7  and  the  actual  expense  charged  to 
this  policy  is  only  $5,  the  remaining  $2  will 
be  the  surplus  from  this  source.  Adding  these 
amounts  the  policyholder  would  secure  a  dividend 
of  #6. 

This  method  would  appear  from  the  description 
equally  as  simple  as  the  earlier  percentage  method 
and  theoretically  there  seems  to  be  little  to  criticize 
in  it.  However,  difficulties  are  experienced  in  apply- 
ing this  plan  and  many  modifications  of  it  are  made 
in  practice.     The  chief  difficulty  centers  in  attempt- 


THE  RESERVE,   SURPLUS,   AND  DIVIDENDS     199 

ing  to  apportion  to  each  policy  for  each  year  of  its 
duration  its  proper  share  of  the  expenses.  We  have 
already  seen  how  complex  the  expenses  of  an  insur- 
ance company  are,  not  only  because  the  individual 
policy  expenses  vary  at  different  times,  being  very 
high  when  issued  and  later  decreasing,  but  also  be- 
cause there  are  so  many  joint  expenses.  The  idea  at 
the  basis  of  the  contribution  plan  is  that  no  member 
or  class  of  members  should  have  assessed  upon  him 
or  them  the  expense  due  to  any  other  insured  individ- 
ual or  groups  of  insured  individuals,  assuming  that 
such  sufficient  numbers  and  amounts  of  insurance 
have  been  obtained  as  will  secure  average  results. 
However,  if  cancellations  are  too  numerous,  or  if 
numbers  have  not  yet  been  obtained  to  secure  these 
average  results,  should  not  the  present  policyholders 
pay  a  part  of  the  expense  from  which  they  will 
benefit  because  they  are  assured  of  average  results  ? 

It  is  true  that  many  of  the  expenses  can  be  identi- 
fied. The  expenses  of  investments  can  be  discovered- 
and  assessed  with  a  reasonable  degree  of  ^.^    ta    . 

ft  Difficulty  of 

accuracy.  The  same  is  true  of  the  med-  assessing 
ical  examination,  the  agency  fees,  rent,  and 
supplies.  The  salary  of  officials,  clerks,  and  office  ex- 
penses, also,  have  some  relation  to  the  amount  of  busi- 
ness done.  But  assuming  these  last-named  expenses 
at  a  given  amount  when  a  given  volume  of  business 
has  been  transacted,  it  does  not  follow  that  a  busi- 
ness of  double  this  volume  would  require  a  doubling 


200  PRINCIPLES   OF  INSURANCE 

of  these  expenses.  Nor  do  such  expenses  as  advertis- 
ing and  postage  bear  any  necessary  relation  to  the 
business  transacted.  The  expenses  due  to  settle- 
ment of  policies  often  vary  greatly.  The  same  is 
true  of  taxes  which  vary  greatly  in  different  taxing 
districts.  If  one  state  levies  a  tax  of  2|  per  cent  and 
another  state  a  tax  of  1  per  cent  on  the  premiums  col- 
lected in  the  state,  should  the  policyholders  in  the 
latter  state  help  to  pay  the  tax  in  the  former  state  ? 
Theoretically  they  should  not,  but  practically  it  is  im- 
possible to  assess  the  tax  on  the  policyholder  in  the 
former  state  in  the  form  of  a  higher  premium. 

The  difficulty,  then,  of  determining  accurately  in- 
dividual policy  expenses  is  apparent  and  in  practice 
the  companies  are  forced  to  group  some  of  these  ex- 
penses and  assess  them  upon  the  premium  or  upon  the 
death  cost.  Mr.  Daniel  H.  Wells,  the  actuary  of 
the  Connecticut  Mutual  Insurance  Company  has  ad- 
vanced the  following  plan  for  assessing  expenses  : 
(a)  assess  the  investment  expense  upon  the  invest- 
ment income ;  (  b  )  assess  upon  the  premiums  such  ex- 
penses as  are  determined  by  the  premium  ;  (  c)  assess 
upon  the  death  cost  or  technically  the  cost  of  insurance 
all  other  expenses.  This  plan  has  the  merit  of  defi- 
niteness,  but  it  does  not  guarantee  that  the  various 
expenses  will  be  properly  identified  and  assigned  to 
the  proper  place.  This  plan  would  imply  that  the  ex- 
pense of  securing  new  business  would  be  borne  in  toto 
by  the  new  members  which  could  be  done  only  on  a 


THE  RESERVE,   SURPLUS,  AND  DIVIDENDS     201 

preliminary  term  plan  or  its  equivalent.  The  old 
line  companies  which  set  aside  a  full  reserve  from  the 
start  must  borrow  from  the  surplus  to  ;>iy  initial  ex- 
penses. 

The  public  has  become  supersensitive  and  often 
unfair  in  its  criticisms  of  the  conduct  of  the  insur- 
ance business  within  recent  years  because  the  manage- 
ment of  such  business  has  not  upon  demand  come 
forth  with  hard  and  fast  rules  for  determining  each 
element  in  the  expense  of  conducting  the  business. 
If  the  same  demand  had  been  made  of  the  management 
of  most  private  enterprises,  the  reply  would  have  been 
almost  equally  unsatisfactory.  None  the  less  it  is 
important  in  the  business  of  such  a  quasi  public  char 
acter  as  the  insurance  business  that  plans  as  definite 
as  possible  for  determining  expenses  be  devised  and 
followed.  Absolute  definiteness  cannot  be  secured 
for  the  best  devised  principles  for  assessing  insurance 
expense  will  meet  many  difficulties  when  the  attempt 
is  made  to  apply  them. 

The  annual  dividend  plan  of  paying  dividends  is 
now  the  general  method  with'  companies  that  write 
participating  policies.  The  dividends  accruing  may 
be  used  by  the  policyholder  to  reduce  the  premium, 
to  purchase  additional  insurance,  as  a  deposit  with 
interest,  as  a  cash  payment,  or  in  several  other  ways 
frequently  found  in  life  insurance  policies. 

The  deferred  dividend  plan  was  extensively  used 
previous  to  the  legislation  which  followed  the  insur- 


202  PRINCIPLES   OF  INSURANCE 

ance  investigations  of  1905.  This  plan  provided 
that  no  dividend  would  be  paid  until  the  close  of 

certain  periods,  usually  5,  10,  15  or  20 
Dividend       years.      Such   policies  were    often  called 

accumulation,  distribution,  or  semitontine 
policies.  The  theory  underlying  this  plan  was  that 
it  tended  to  security  since  an  interval  of  this  length 
would  be  a  safer  basis  on  which  to  determine  the  real 
gains  than  would  a  year,  and  second,  that  the  persist- 
ing policyholder  was  more  entitled  to  whatever 
gain  resulted  rather  than  the  policyholder  who 
lapsed,  but  who  under  an  annual  dividend  plan  en- 
joyed a  reduction  in  his  insurance  cost  by  receiving 
the  annual  dividend.  It  is  evident  that  under  the 
deferred  dividend  plan  the  company  holds  large  sums, 
and  this  condition  theoretically  not  only  insures  a 
greater  guarantee  of  solvency,  but  also  by  its  com- 
pound interest  accumulations  and  wise  investments 
returns  to  the  surviving  policyholder  a  large  amount 
of  so-called  dividends.  In  practice,  however,  these 
expected  greater  results  were  not  always  obtained. 
It  was  found  that  these  large  funds  were  a  continual 
temptation  for  extravagant  expenditures  by  the 
management  of  some  companies.  No  accounting  to 
the  policyholders  for  this  sum  was  necessary  until 
the  close  of  the  period  and  in  the  strong  competition 
for  business  the  management  of  some  companies  de- 
pleted this  fund.  Then,  too,  the  agents  of  the  com- 
panies   often    made    extravagant     statements    and 


THE  RESERVE,   SURPLUS,  AND  DIVIDENDS     203 

promises  to  prospective  purchasers  of  policies  regard- 
ing the  amount  which  they  might  expect  these  deferred 
dividends  to  be.  The  policy  contract  did  not  guar- 
antee any  specified  dividend  and  when  the  time  for 
distribution  came,  many  policyholders  were  disap- 
pointed because  their  dividends  were  much  smaller 
than  they  had  been  led  to  believe  they  would  be. 
Some  companies  issued  estimates  of  dividends,  but 
these  were  not  always  accepted  by  the  public  as  esti- 
mates. Doubtless  many  officials  and  agents  were 
sincere  in  thinking  that  the  company  would  be  able 
to  pay  the  sums  indicated  in  the  estimates,  but  they 
made  the  mistake  of  assuming  that  the  interest  rate 
would  continue  as  high  in  the  future  as  it  had  been 
in  the  past,  and  the  further  mistake  of  assuming 
a  heavier  lapse  rate  than  actually  occurred.  Many 
policyholders  consequently  believed  that  they  had 
been  intentionally  deceived,  as  doubtless  some  were, 
and  they  expressed  their  demand  to  the  state  leg- 
islatures, which  enacted  the  annual  distribution 
laws. 

The  tontine  plan  has  long  ceased  to  be  of  any 
great  importance.  The  pure  tontine  plan  was  one 
by  which  the  lapsing  policyholder  received  The  Tontine 
neither  dividends  during  duration  of  in-  Plan- 
surance  nor  cash  surrender  at  the  time  of  lapse. 
The  total  contributions  and  their  earnings  were  di- 
vided at  the  close  of  a  period  among  the  members 
who  persisted.     This  plan  became  illegal  in    time 


204  PRINCIPLES   OF  INSURANCE 

and  gave  way  to  the  semitontine  and  other  plans  of 
deferred  dividends. 

The  annual  dividend  plan  affords  a  method  of  se- 
curing the  insurance  at  an  immediate  and  continuous 
a  lower  cost,  and  since  insurance  is  primarily 

Dividend  a  protection  and  not  an  investment,  the  plan 
will  probably  prove  more  and  more  popular 
as  the  purchasers  of  insurance  come  to  understand  bet- 
ter this  plan  of  paying  dividends.  This  statement 
does  not  imply  that  for  the  same  policy  at  the  same  age 
the  annual  dividend  plan  has  resulted  in  a  lower  net 
payment  for  the  insurance  than  on  the  deferred  dividend 
plan,  since  the  company  might  have  been  able  to  keep 
what  has  been  paid  in  annual  dividends  so  invested 
that  it  would  have  earned  a  larger  sum  in  their 
possession  than  when  it  was  invested  by  the  policy- 
holder. Indeed,  when  considered  individually,  the 
chances  of  securing  a  better  investment  of  this  divi- 
dend sum  by  the  company  are  decidedly  more  favor- 
able than  when  it  is  invested  by  the  average  policy- 
holder. 

REFERENCES 

Dawson,  Miles  M.     The  Business  of  Life  Insurance.     Chaps. 

V,  XIX. 
Smith,  G.  W.     Notes  on  Life  Insurance.     Chaps.  Ill,  VII. 
Yale  Readings.     Vol.  I,  Chap.  XIII. 
Report  of  Joint  Committee  of  Senate  and  Assembly  of  New 

York,  pp.  378-388,  418-429. 


CHAPTER   IX 

INVESTMENTS   AND   INTEREST 

One  of  the  most  difficult  problems  in  the  practical 
operation  of  a  life  insurance  company  is  the  manage- 
ment and  investment  of  insurance  funds.   _.    _ 

The  Impor- 

The  importance  of  this  subject  is  due  tanceof 
chiefly  to  the  fact  that  these  funds  are  ad- 
vance collections  from  the  policyholders  to  aid  in 
the  payment  of  claims  which  will  not  fall  due  for 
many  years.  The  contract  made  by  the  company  is 
with  one  person,  but  the  benefit  is  usually  paid  to 
another  person.  It  is  this  reserve  fund  which  guaran- 
tees the  payment  at  maturity  of  these  long  time  con- 
tracts in  which  several  parties  are  interested  and 
whose  payment  means  so  much  to  the  beneficiaries. 
The  calamity  which  would  result  if  all  the  insurance 
companies  should  default  their  contracts  is  beyond 
imagination.  From  the  previous  discussions,  it  will 
be  understood  that  the  assets  must  be  at  all  times  so 
invested  as  to  equal  at  least  the  reserve  value  of  the 
policies,  for  this  is  not  only  a  requirement  of  the 
statutes,  but,  as  we  have  seen,  is  also  absolutely 
necessary  under  the  level  premium  plan  in  order  to 
mature  the  contracts.     In  addition  those  companies 

205 


206  PRINCIPLES   OF  INSURANCE 

which  pay  dividends  expect  to  secure  from  their 
investments  a  part  of  the  surplus  from  which  divi- 
dends are  paid.  So  large  in  amount  have  these 
funds  become  and  such  great  financial  ability  is  re- 
quired for  their  wise  management,  that  this  problem 
may  well  be  considered  one  of  the  most  difficult  in 
the  insurance  business.  We  will  discuss  the  subject 
of  investments  under  the  following  heads :  (a)  the 
character  of  the  investments  in  the  past  and  present ; 
(6)  the  rate  of  interest  secured  on  the  different  kinds 
of  investments  at  different  periods.  The  topic  of  the 
legal  requirements  in  regard  to  investments  is  re- 
served for  a  detailed  discussion  in  a  later  chapter. 

An  investigation  of  the  investments  of  life  insur- 
ance companies  in  the  past  shows  that  in  1851  the 
^   'im.  Connecticut  Mutual  Life  Insurance  Com- 

The  Charac- 
ter of  the        pany  and  the  Mutual  Benefit  Life  Insurance 

Company  of  New  Jersey,  which  are  two  of 
the  oldest  and  may  be  taken  as  representative  com- 
panies, had  56  per  cent  of  their  assets  invested  in 
premium  notes,  that  is,  notes  given  by  the  insured  for 
premiums  due.  Of  the  other  assets  derived  from 
cash  payments  held  at  that  date  26  per  cent  was  in 
real  estate,  about  9  per  cent  of  the  remainder  was  in 
city  bonds  and  bank  stocks,  and  about  9  per  cent  was 
held  as  cash.  A  very  marked  decrease  in  premium 
notes  then  followed,  so  that  in  1858  only  21  per  cent 
of  the  assets  of  the  four  largest  companies  was  in  the 
form  of  premium  notes.     Of  the  remaining  79  per 


INVESTMENTS  AND  INTERESTS  207 

cent  of  the  assets  about  67  per  cent  was  in  mortgage 
notes. 

The  cash  item  as  a  relative  percentage  did  not 
among  companies  as  a  whole  show  any  marked  ten- 
dency to  decrease  preceding  1905.  Cash  The  Cash 
held  in  the  office  has  constituted  a  temp-  Item- 
tation  which  the  management  of  some  companies 
has  not  been  able  to  resist,  as  the  insurance  investi- 
gations begun  in  1905  disclosed.  The  cash  item  in 
theory  should  consist  of  money  held  to  pay  matured 
policy  claims  falling  due  whether  these  be  death 
claims,  endowment  claims,  annuity  claims,  or  cash 
surrender  values  ;  money  held  for  current  expenses 
and  cash  awaiting  investments.  Insurance  officials 
are  not  always  able  to  find  immediate  investments  of 
a  desirable  character.  There  has  been  a  tendency  in 
some  cases  to  hold  an  unduly  large  amount  of  cash 
which  went  to  the  call  loan  market.  As  is  well 
known,  the  interest  rate  on  these  loans  is  often  very 
high,  but  the  risk  is  also  often  great.  Security  should 
be  the  first  criterion  of  judging  the  excellence  of  an 
insurance  investment  rather  than  the  high  rate  of 
return  secured.  It  is  desirable,  of  course,  to  secure 
high  interest  returns,  since  this  may  result  in  greater 
dividends  and  lower  premiums  to  the  policyholder, 
but  the  fundamental  question  is  to  decide  how  high 
a  rate  of  interest  can  be  secured  consistent  with  the 
security  of  the  investment.  It  was  shown  in  the  re- 
cent investigations  that  as  high  as  20  per  cent  of  the 


208  PRINCIPLES   OF  INSURANCE 

funds  of  some  companies  was  deposited  in  banks 
and  trust  companies.  In  some  cases  the  officials  of 
the  insurance  company  were  officials  or  directors  of 
the  bank  and  trust  companies.  This  situation  would 
seem  a  very  natural  condition  of  affairs  when  it  is  re- 
called that  the  insurance  company  has  large  funds  to 
loan  and  that  the  bank  and  trust  companies  are  institu- 
tions for  making  loans.  This  dual  relationship,  how- 
ever, often  placed  the  insurance  official  in  a  position 
in  which  there  was  a  conflict  of  interests.  As  an  in- 
surance official,  he  should  desire  to  secure  as  much  in- 
terest as  possible  for  the  insurance  fund.  As  a  bank 
or  trust  company  official,  he  would  be  interested  in 
having  the  insurance  company  keep  as  much  cash  as 
possible  in  the  bank  or  trust  company  without  it 
bearing  interest.  Then,  too,  we  shall  see  that  the 
field  of  desirable  loans  for  insurance  funds  is  much 
more  restricted  than  in  the  case  of  these  other  two 
financial  institutions.  There  is,  therefore,  a  constant 
temptation  to  make  loans  of  the  less  suitable  kind. 

In  1860  a  large  part  of  the  assets  of  life  insurance 
companies  was  in   notes,  given   for   premiums.     In 
.  1870  of  the  seventy-one  companies  doing 

Notes  and  business  in  Massachusetts  there  were 
o  cy  oans.  twenty_three  which  did  not  hold  interest 
bearing  securities  equal  to  the  reserve  value  of  the 
outstanding  policies.  When  the  panic  of  1873  oc- 
curred, many  of  these  companies  failed,  partly  be- 
cause   these   premium   notes   became  worthless  and 


INVESTMENTS  AND  INTERESTS  209 

partly  on  account  of  the  high  and  strict  reserve  val- 
uations required  by  some  of  the  state  laws.  Others 
reduced  the  number  of  premium  notes.  It  is  now 
the  practice  to  collect  the  premiums,  then  loan  on 
policyholders'  notes  up  to  the  reserve  value  of  the 
policy.  A  very  common  method  of  paying  a  pre- 
mium due  is  for  the  policyholder  to  borrow  from  the 
company  on  his  policy.  This  is  debited  against  the 
policy,  and  since  the  loan  is  based  on  the  reserve 
value  of  the  policy,  there  is  no  such  danger  as  in  the 
earlier  plan  of  premium  notes.  Loans,  of  course,  are 
secured  on  the  policy  for  other  purposes  than  paying 
the  premium.  Premium  notes  are  valuable  as  assets 
only  to  the  extent  that  they  are  covered  by  the  re- 
serve value  of  the  policy,  since  the  company  is  re- 
lieved to  this  extent  of  its  obligations  to  the  policy- 
holder. 

The  other  questions  which  arise  in  connection  with 
loans  are  (a)  to  what  extent  loans  on  policies  are 
conducive  to  lapses,  and  (6)  the  effect  that  Danger  of 
they  have  in  requiring  the  company  to  Policy  Loans, 
keep  on  hand  a  larger  amount  of  cash  than  would 
otherwise  be  necessary,  Jbhereby  preventing  an  inter- 
est accumulation  from  these  uninvested  funds.  It  is 
true  that  in  the  seventies  a  large  number  of  policy- 
holders who  had  given  premium  notes  lapsed,  but 
evidence  is  not  conclusive  that  the  plan  of  loans  now 
followed  is  conducive  to  lapses.  It  is  not  so  much 
that  they  cause  lapses,  but  rather  that  they  often  go 


210  PRINCIPLES   OF  INSURANCE 

far  to  defeat  the  purpose  of  insurance  and  therefore 
the  ultimate  effect  is  much  the  same  as  if  the  policy- 
holder had  lapsed.  The  ease  with  which  a  loan  is 
secured  on  a  policy  is  often  a  great  temptation  to 
many  policyholders,  with  the  result  that  the  insurance 
loan  is  devoted  to  speculative  enterprises.  The  wife 
or  children  or  other  dependents  for  whose  benefit 
the  insurance  is  carried  sometimes  know  nothing 
about  these  loans,  and  as  a  consequence  they  find  in 
case  of  the  death  of  the  insured  that  they  have  less 
protection  than  they  expected.  The  companies  may 
or  may  not  make  efforts  to  secure  the  payment  of  the 
loan,  but  too  often  the  policyholder  has  not  the  will 
to  pay  it  even  when  he  is  able  to  do  so.  There  is 
no  one  to  compel  him  to  pay  it,  as  is  the  case  with 
the  ordinary  loan.  The  policy  loan  provision  is 
largely  an  outgrowth  of  the  strong  competition  among 
companies  for  business,  and  this  provision  was  writ- 
ten into  the  contract  as  an  inducement  for  the  pro- 
spective purchaser  to  buy  insurance. 

As  to  the  second  point,  viz.  that  the  loan  feature 
requires  companies  to  keep  a  larger  amount  of  cash, 
Policy  Loans  it  may  be  stated  that  these  loans  place  a 
and  Sol-        strain   on  the  company  at  certain  times. 

vency  of  the  r      «' 

Company.  That  is  to  say,  the  demand  for  loans  is 
greatest  in  times  of  industrial  depression  and  in 
periods  of  speculation.  If  the  increased  demand  oc- 
curs in  the  first  period,  the  company  is  likely  to  be 
receiving  less  in  cash  payments  for  premiums  due, 


INVESTMENTS  AND  INTEREST  211 

If,  therefore,  it  is  forced  to  sell  some  of  its  securities, 
it  will  not  receive  a  good  price  for  them,  or  if  it  is 
forced  to  borrow  funds  to  accommodate  its  policy- 
holders under  the  terms  of  the  contract,  the  rate  of 
interest  which  it  will  be  forced  to  pay  is  high.  If 
the  increased  demand  comes  at  times  of  speculative 
activity,  there  is  great  danger  that  the  investment 
made  by  the  policyholder  from  the  loan  on  his  policy 
will  be  unfortunate  and  he  will  therefore  be  less  able 
to  repay  the  loan  as  well  as  the  future  premiums. 
During  the  financial  depression  of  19J7  many  policy- 
holders took  advantage  of  the  loan  benefit  in  their 
policy  and  borrowed  very  large  sums  in  the  aggre- 
gate from  the  companies.  While  the  companies  met 
these  demands  with  commendable  promptness,  yet 
to  some  of  the  companies  it  became  a  troublesome 
question.  On  account  of  their  experience  at  this 
time,  some  of  the  companies  seek  to  protect  them- 
selves by  requiring  that  a  notice  shall  be  given  to  the 
company  when  a  loan  is  desired  in  much  the  same 
manner  as  is  done  in  the  case  of  depositors  in  Savings 
Banks.  This  restriction  will  doubtless  do  much  to- 
protect  the  company,  but  it  is  not  an  absolute  protec- 
tion against  the  loan  question  becoming  a  serious  one. 
When  the  loan  is  made  to  pay  premiums,  it  is  in  its 
least  objectionable  form.  It  may  be  stated  as  a 
superficial  reply  to  the  whole  question  of  loans  that 
the  reserve  is  the  policyholder's  property  and  that 
he  ought  to  be  allowed  to  use  it  as  he  pleases.     A 


212  PRINCIPLES   OF  INSURANCE 

moment's  consideration  will,  however,  disclose  the 
fallacy  of  such  a  statement,  since,  carried  to  its  logical 
conclusions,  it  would  mean  that  there  would  be  no 
such  a  person  as  a  beneficiary.  It  is  above  all  for 
such  a  person  or  persons  that  the  institution  of  in- 
surance was  devised.  The  insurer  cannot,  from  one 
point  of  view  benefit  by  his  insurance.  The  signifi- 
cance of  the  subject  may  be  inferred  from  the  fact 
that  in  1908  the  loans  made  to  policyholders  by  the 
Life  Insurance  Companies  in  the  United  States  aggre- 
gated about  $400,000,000,  or  about  13  per  cent  of  the 
total  admitted  assets. 

In  1860  loans  on  mortgages  made  up  59  per  cent 
of  the  assets,  but  this  proportion  had  decreased  to 
Mortgages  44  per  cent  in  1870.  During  the  Civil 
and  Bonds.  war  the  United  States  bonds  could  be 
purchased  so  as  to  yield  a  high  rate  of  interest,  and 
insurance  companies  very  largely  followed  the  prac- 
tice of  investing  all  their  available  funds  in  these 
bonds.  It  must  be  recalled  that  corporation  securi- 
ties which  were  later  available  in  such  desirable 
quantities  were  not  to  be  had  to  any  large  extent 
until  in  the  last  quarter  of  the  nineteenth  century. 
When  the  premium  on  gold  began  to  decrease  and 
the  interest  on  the  United  States  bonds  declined, 
the  insurance  companies  began  to  seek  mortgage 
loans.  The  middle  west  during  the  third  quarter 
of  the  century  sought  large  amounts  of  capital  for 
the   construction   of   its   railways   and   the   general 


INVESTMENTS  AND  INTEREST  21:5 

development  of  the  region.  Interest  rates  were 
high  and  large  amounts  of  insurance  funds  were 
invested  in  the  west.  Mortgage  loans  increased 
rapidly  from  about  1865  to  1875  and  then  decreased 
until  about  1885.  The  panic  of  1873  forced  the 
insurance  companies  to  foreclose  many  of  their 
mortgages,  with  the  result  that  they  found  them- 
selves in  possession  of  considerable  real  estate. 
This  was  a  species  of  property  not  suitable  for  pos- 
session by  an  insurance  company  since  the  expenses 
of  management  are  not  only  excessive  but  these 
assets  are  not  easily  convertible. 

The  real  estate  investments  of  an  insurance  com- 
pany are  usually  limited  by  law  to  a  Home  Office 
building  in  which  to  transact  its  business. 
Usually  the  law  requires  that  the  property 
obtained  by  foreclosure  must  be  sold  within  two 
years.  We  have  shown  why  the  company  does 
not  want  to  retain,  unless  necessary,  the  second 
kind  of  real  estate.  All  companies  do  not  own 
their  office  buildings.  Many  rent  office  space. 
However,  there  was  a  very  marked  tendency  as  the 
companies  grew  in  size  to  construct  their  own  office 
buildings.  This  policy,  it  was  argued,  would  be 
a  good  advertisement  for  the  company  and  as  a 
result  many  of  the  companies  spent  profusely  for 
the  construction  of  office  buildings.  Nor  was  the 
policy  confined  to  the  large  companies.  Later 
investigation  showed  that  in  many  cases  no  adequate 


214  PRINCIPLES   OF  INSURANCE 

financial  return  was  secured  on  these  office  buildings 
and  in  some  cases  misappropriation  of  funds  was 
disclosed  by  permitting  allied  trust  companies  to 
use  parts  of  the  buildings  at  a  nominal  rent.  Since 
1905  the  office  buildings  are  showing  better  returns, 
and  in  several  cases  the  branch  offices  of  the  larger 
companies  have  been  sold. 

Foreign  bonds  have  been  purchased  only  by  those 
companies  writing  business  in  foreign  countries  in 
Government  which  the  law  requires  such  an  invest- 
Bonds.  .  merit.  The  early  insurance  companies  in- 
vested considerable  funds  in  the  bonds  of  the  different 
states  during  the  period  from  1835  to  1855.  Many 
of  the  states  were  undertaking  vast  schemes  of  in- 
ternal development,  such  as  the  construction  of 
canals,  railways,  and  roads.  On  account  of  the  de- 
mands of  the  rapidly  growing  states  of  the  middle 
west  and  south,  state  bonds  were  very  numerous. 
However,  some  of  the  states  repudiated  their  debts, 
and  considerable  sentiment  favored  the  same  policy 
in  other  states.  This  caused  the  state  bonds  to  be- 
come unfavorable  securities.  Since  1865  state  bonds 
have  not  been  numerous.  City  expenditures  began 
to  increase  very  rapidly  after  the  Civil  War,  for  the 
rapidly  increasing  urban  population  demanded  many 
improvements  in  the  cities.  In  1880  about  15  per 
cent  of  the  insurance  companies'  assets  were  invested 
in  city  bonds.  Some  cities  attempted  to  repudiate 
their  debts  and  in  many  cases  great  difficulty  was 


INVESTMENTS  AND  INTEREST  215 

experienced  with  these  investments  in  city  bonds. 
As  a  result  the  insurance  companies  did  not  for  some 
time  seek  these  investments.  State  legislatures 
either  of  their  own  volition  or  as  a  result  of  a  re- 
quest from  the  cities  were  continually  legislating  on 
the  subject  of  the  city  tax  rate  and  the  power  of  the 
city  to  contract  debts.  There  is  a  tendency  in  later 
years,  however,  for  the  companies  to  seek  again  this 
form  of  a  loan,  for  the  security  of  city  bonds  has 
improved. 

A  very  great  increase  in  the  investments  in  corpora- 
tion securities  occurred  in  the  last  quarter  of  the  nine- 
teenth century,  and  especially  since  1890.  investments 
Both  stock  and  bonds  were  purchased,  al-  ^on  s'ecuri"- 
though  the  investigations  of  the  insurance  ties, 
business  in  1905  resulted  in  the  passage  of  laws  by 
various  states  which  either  wholly  prohibited  or  limited 
insurance  investments  in  stocks.  The  objections  to 
investments  in  stocks  are  twofold  :  (a)  A  stockholder 
is  a  participant  in  the  management  of  the  corporation 
whose  stock  he  holds  and  manifestly  such  a  function 
is  not  desirable  for  an  insurance  company.  The  in- 
surance company  thus  becomes  more  than  what  the 
theory  underlying  its  organization  assumes  that  it  is. 
That  is  to  say,  it  becomes  more  than  a  trustee.  It 
becomes  a  manager  or  a  partner  in  a  private  business. 
(6)  In  the  second  place  stocks  fluctuate  greatly  in 
value,  thus  causing  the  question  of  the  solvency  of 
the  insurance  company  or  its  ability  to  pay  dividends 


216  PRINCIPLES   OF  INSURANCE 

to  arise  continually  with  every  change  in  the  success 
of  the  commercial  enterprises  in  which  the  funds  are 
invested.  The  two  most  fundamental  words  in  the 
insurance  business,  the  two  most  pregnant  with  the 
purpose  and  theory  of  insurance,  are  certainty  and 
stability. 

In  1908  the  statistics  of  the  ordinary  life  insurance 
companies  showed  that  they  owned  over  one  billion 
investments  dollars  of  bonds  and  almost  one  billion  of 
in  stocks.  loans  and  mortgages.  The  amount  of 
stocks  held  was  only  1133,000,000.  The  New  York 
law  required,  as  a  result  of  the  investigations,  that 
the  companies  should  dispose  of  their  stocks.  This 
was  done  on  the  theory  that  the  holding  of  stocks 
would  be  a  continual  temptation  to  the  insurance 
officials  to  organize  and  finance  new  companies  from 
which  they  as  individuals  would  gain.  It  was  not 
desirable,  so  it  was  argued,  for  insurance  officials  to 
loan  money  to  themselves  as  officials  of  other  com- 
mercial corporations.  This  meant  that  the  insurance 
funds  were  to  be  considered  as  trust  funds,  and  as 
such  were  to  be  protected  by  every  possible  safe- 
guard in  order  to  insure  that  the  funds  should  be 
kept  intact  even  if  only  a  low  rate  of  interest  was 
earned.  It  is  quite  true  that  the  net  return  on 
stocks  is  often  higher  than  on  bonds,  since  the  inter- 
est paid  on  bonds  is  subject  to  the  fluctuating  pur- 
chasing power  of  money  and  the  loss  falls  on  the 
bondholder  while  in  the  case  of  stocks  the  loss  may 


INVESTMENTS  AND  INTEREST 


217 


be  recouped  by  an  increase  in  the  selling  value  of 
the  stock.  The  following  table  taken  from  that 
valuable  source  of  insurance  statistics,  the  Year 
Book  of  the  Spectator  Company,  is  given  to  indicate 
the  present  character  of  the  insurance  investments. 
It  will  be  understood  that  in  the  case  of  individual 
companies  the  characteristics  of  the  investments 
differ  very  widely.  For  example,  one  of  the  older 
companies  of  the  middle  west  has  had  throughout 
its  history  a  very  large  part  of  its  assets  invested  in 
mortgages  on  real  estate  and  has  been  able  to  receive 
throughout  its  history  excellent  results  on  this  class 
of  investments. 

The  following  table  shows  the  approximate  distri- 
bution of  the  investments  of  one  hundred  and  sev- 
enty-three life  insurance  companies'  admitted  assets. 


Total  admitted  assets 
Invested  in  real  estate    .     . 
Invested  in  loans  and  mort- 


gages   

Invested  in  loans  .  .  . 
Invested  in  stocks  .  .  . 
Invested  in  collateral  loans 
Invested  in  premium  notes 
Invested    in  loans  to  policy 

holders 

Cash  in  office  and  banks     . 


$3,000,000,000 
125,000,000 

913,000,000 
1,354,000,000 

131,000,000 
15,000,000 
25,000,000 

394,000,000 
53,000,000 


4.04  per  cent 

29.60  per  cent 

43.88  per  cent 

4.24  per  cent 

.48  per  cent 

.79  per  cent 

12.76  per  cent 
1.73  per  cent 


Let  us  now  examine  the  rate  of  interest  which  the 
companies  assumed  they  would  earn  and  then  inves- 
tigate the  actual  rates  of  interest  earned.     In  the 


218  PRINCIPLES   OF  INSURANCE 

earlier  practice  of  insurance  the  ordinary  life  policy 

was  most  generally  written  and  the  average  rate  of 

interest  earned  was  not  so  important  as 

Assumed  * 

interest  when  endowment  and  limited  payment 
policies  came  to  be  written,  because  these 
early  policies  had  no  provisions  for  cash  surrender  and 
loan  values  or  annual  dividends,  and  a  failure  to  pay 
premiums  usually  forfeited  the  policy.  There  were 
considerable  gains  from  lapses.  When  state  super- 
vision began  in  the  fifties,  some  rate  of  interest  earn- 
ings had  to  be  assumed  in  order  to  value  the  policies. 
Elizur  Wright,  the  insurance  commissioner  of  Massa- 
chusetts secured  the  passage  of  a  law  in  that  state  in 
1857  which  required  the  companies  to  assume  a  4 
per  cent  interest  earning  as  a  basis  of  computing 
their  liabilities.  Georgia  established  the  same  basis 
in  1859,  but  no  other  state  adopted  a  basis  until  after 
the  Civil  War.  The  action  of  these  states  had,  how- 
ever, caused  most  of  the  companies  to  adopt  the  4 
per  cent  basis  of  valuation.  In  1862  eleven  of  the 
seventeen  companies  doing  a  level  premium  business 
were  on  a  4  per  cent  basis,  three  on  a  5  per  cent  ba- 
sis and  one  on  a  6  per  cent  basis.  The  high  interest 
rates  of  the  Civil  War  period  caused  New  York  in 
1866,  to  pass  a  law  requiring  a  5  per  cent  basis,  but 
this  was  lowered  to  4J  per  cent  two  years  later.  In 
1873  Maine,  New  Hampshire,  Connecticut,  and  Illi- 
nois required  a  4  per  cent  basis  and  fifteen  other 
states  required  a  4J  per  cent  basis.     The  hard  times 


INVESTMENTS  AND  INTEREST  219 

of  this  period  caused  a  decided  tendency  to  assume 
a  4  per  cent  basis,  but  very  few  insurance  officials 
thought  that  a  lower  rate  would  be  necessary  for 
some  years.  The  Connecticut  Mutual  Company  an- 
nounced, to  the  surprise  of  the  insurance  world,  that 
beginning  with  1882  its  new  business  would  be  writ- 
ten on  a  3J  per  cent  basis,  but  no  state  required  a  3J 
per  cent  basis  before  January  1,  1901.  At  the  pres- 
ent time  practically  all  business  is  written  either  on 
a  3J  per  cent  or  3  per  cent  basis. 

Such  has  been  the  history  of  the  different  rates  of 
interest  earning  assumed.  What  has  been  the  his- 
tory of  the  actual  interest  rate  earned  ?  Actual  Inter- 
In  1859  seven  level  premium  companies  estEarnings. 
were  earning  from  5.4  per  cent  to  6.4  per  cent.  In 
1861  eleven  companies  earned  a  rate  below  6  per 
cent,  but  on  account  of  the  high  interest  rates  of  the 
Civil  War  period  the  decade  from  1860  to  1870  shows 
the  highest  rate  of  earning  of  any  decade  in  the  his- 
tory of  insurance.  Eleven  companies  earned  above 
10  per  cent,  seventeen  earned  between  9  per  cent  and 
10  per  cent,  twenty-four  between  8  per  cent  and  9 
per  cent,  thirty-seven  between  7  per  cent  and  8  per 
cent,  and  forty  between  6  per  cent  and  7  per  cent. 
On  account  of  the  hard  times,  the  large  number  of 
premium  notes  and  other  minor  contributing  causes, 
many  companies  failed  in  the  decade  1870  to  1880, 
although  the  average  earning  of  all  companies  was 
above  6|  per  cent.    This  resulted,  however,  from  the 


220  PRINCIPLES   OF  INSURANCE 

very  high  earnings  of  a  few  companies.  After  1880 
the  decline  in  average  earnings  began  and  no  com- 
pany maintained  a  level  earning  of  6  per  cent.  Dur- 
ing the  decade  1890  to  1900  the  average  rate  of 
earnings  for  most  companies  was  below  6  per  cent. 
Only  two  companies  maintained  a  level  rate  of  5  per 
cent.  During  the  years  1899  to  1908  inclusive,  the 
average  rate  of  interest  earned  by  the  twenty-five 
leading  companies  was  4.68  per  cent. 

The  earnings  on  particular  classes  of  investments 
may  be  briefly  described.  The  earnings  on  real 
„     .  estate  were    fair   during   the   sixties   but 

Earnings  on  ° 

specified  decreased  during  the  next  decade.  In  the 
decade  from  1890  to  1900  the  earnings  on 
real  estate  were  on  an  average  below  3  per  cent  in 
many  of  the  companies.  During  the  latter  part  of  the 
decade  from  1900  to  1910  the  earnings  on  real  estate 
have  greatly  improved  as  a  result  of  the  great 
increase  in  real  estate  values.  The  laws  of  some 
states  do  not  permit  insurance  companies  to  hold 
real  estate  except  for  office  building  purposes.  Dur- 
ing the  years  from  1860  to  1880  the  earnings  on 
mortgage  loans  were  in  general  very  satisfactory,  but 
during  the  next  two  decades  the  earnings  on  loans  of 
this  character  were  much  less.  A  few  companies 
have  been  able  to  secure  almost  continuously  satis- 
factory results  from  mortgage  loans.  We  have 
previously  described  why  the  investment  in  govern- 
ment bonds  brought  high  returns  during  Civil  War 


INVESTMENTS  AND  INTEREST  221 

times  and  why  the  insurance  companies  tended  to 
reduce  their  investments  in  these  securities.  In  the 
last  quarter  of  the  nineteenth  century  very  large 
investments  were  made  in  the  stocks  of  railroad  and 
industrial  corporations,  but  for  the  reasons  already 
stated  the  investments  in  stock  have  been  so  reduced 
that  in  1908  only  4.61  per  cent  of  the  total  assets 
of  the  one  hundred  and  fifty-seven  life  companies 
was  invested  in  stocks. 

The  laws  of  the  states  restrict  the  kinds  of  invest- 
ments  open   to   insurance    companies.     No   specific 
rules  can  be  laid  down  for  the  investment  principles 
of  insurance  funds,  which  will  be  applicable  governing 

.  Investments 

to  all  companies  or  even  to  a  single  com-  0f  insurance 
pany  at  all  times.  It  is  a  matter  which  Funds- 
must  be  adjusted  to  suit  the  changing  conditions  of 
the  investment  market.  Those  in  charge  of  the 
finances  of  insurance  companies  must  regard  not 
only  the  interest  of  present  policyholders,  but  must 
also  anticipate  the  interest  of  the  policyholders  of 
the  future.  Subject  to  certain  special  conditions  the 
following  principles  may  be  stated  as  applying  to 
the  investment  of  insurance  funds  :  (a)  The  funds 
should  be  so  invested  that  they  will  be  subject  to  the 
least  possible  fluctuations  in  their  value.  Stable 
results  for  obvious  reasons  must  be  secured. 
(5)  Subject  to  the  above  limitation  the  investments 
should  be  such  as  will  bring  the  highest  possible 
returns,  for  this  means  lower  cost  of  insurance  to  the 


222  PRINCIPLES   OF  INSURANCE 

policyholder  from  whom  the  funds  have  been 
collected.  (<?)  The  larger  proportion  of  the  funds 
should  be  invested  in  long  time  securities,  since  this 
not  only  reduces  the  expense  of  investments,  but  also 
is  likely  to  produce  better  returns  over  long  periods, 
because  the  supply  of  capital  seeking  such  invest- 
ments is  somewhat  limited.  That  is  to  say,  the 
competition  for  such  investments  is  not  great,  and 
this  tends  to  produce  a  higher  interest  rate. 
(d)  The  funds  should  be  invested  in  sufficiently 
different  classes  of  securities  to  prevent  any  marked 
decrease  in  earning  due  to  unfavorable  conditions 
which  may  affect  a  certain  business  from  time  to 
time.  Deficiencies  in  one  class  of  investments  will 
then  tend  to  be  equalized  by  excesses  on  other  classes  of 
investments,  (e)  Investment  in  securities  of  corpo- 
rations or  in  kinds  of  business,  the  earnings  on  which 
may  be  decidedly  affected  by  a  change  in  the  policy 
of  the  management  or  by  the  death  of  a  partner 
should  generally  be  avoided.  (/)  While  mortgage 
investments  have  often  been  successful,  yet  great 
care  needs  to  be  exercised  in  making  them  in  order 
to  keep  the  loan  on  the  property  well  within  the 
fluctuating  values  of  the  property.  Investigations 
must  also  be  made  as  to  the  title  of  the  property,  the 
rate  of  taxation,  and  the  character  of  the  possession, 
that  is,  whether  it  is  absolute  ownership  or  a  life 
estate.  It  is  not  surprising,  therefore,  to  find  that 
the  expense  rates  of  investments  of  this  character  are 


INVESTMENTS  AND  INTEREST  223 

sometimes  high.  (#)  From  the  viewpoint  of  the 
company  a  certain  amount  loaned  on  policies  may  be 
desirable,  since  they  are  absolutely  safe  loans,  and 
return  the  normal  rate  of  interest.  They  also  make 
the  company's  policies  more  popular  and  aid  in 
securing  new  policies.  From  the  viewpoint  of 
the  borrower  such  loans  are  not  to  be  commended 
except  in  cases  of  extreme  necessity. 

Those  in  charge  of  the  investments  of  insurance 
funds  must  always  remember  that  they  are  acting  in 
the  capacity  of  trustees  ;  that  while  they  need  to  be 
aggressive  in  their  search  for  investments  returning 
a  high  rate  of  interest,  yet  that  the  maintenance  of 
stable  results  by  obtaining  secure  investments  is  the 
most  important  consideration. 

We  may  now  discuss  the  topic  of  buying  insurance, 
since  the  intelligent  purchase  of  insurance  must  be 
based  upon  an  understanding  of  the  dif-  Buying 
ferent  kinds  of  companies,  policies,  and  insurance, 
premium,  the  significance  of  dividends  and  the  reserve 
as  well  as  the  character  of  insurance  investments. 
Each  of  these  topics  has  been  discussed,  and  although 
some  of  the  following  points  might  have  been  taken 
up  in  the  preceding  chapters,  yet  it  has  been  thought 
best  to  defer  them  for  discussion  under  the  topic  of 
buying  insurance. 

The  prospective  purchaser  must  realize  in  the  first 
place  that  insurance  is  not  and  cannot  be  made  pri- 
marily an  investment  in  the  sense  in  which  this  word 


224  PRINCIPLES   OF  INSURANCE 

is  ordinarily  used.  It  cannot  be  considered  an  in- 
vestment in  the  same  sense  as  the  purchase  of  a  farm 
Theinsur-  or  a  bond.  If  an  allowance  is  made  for 
r^T Tin-7  ^ne  Protection  afforded,  some  policies  may 
vestment.  be  considered  as  an  investment,  but  not 
as  a  true  competitor  with  the  ordinary  investment. 
They  afford  an  opportunity  for  systematized  saving 
and  thus  whatever  of  the  character  of  an  investment 
they  have  is  indirect  rather  than  direct  in  its  returns. 
The  purchaser  must  decide  first  the  kind  of  a  com- 
pany from  which  he  will  purchase  his  insurance ;  that 
is,  he  must  decide  between  an  old  line  legal  reserve 
company,  a  fraternal,  and  an  assessment  company. 
His  decision  will  depend  very  largely  upon  whether 
he  appreciates  the  importance  of  the  reserve  in  the 
insurance  business.  If  he  does  understand  its  char- 
acter, he  will  purchase  his  insurance  either  from  one 
of  the  ordinary  legal  reserve  companies  or  from  a 
fraternal  order  which  operates  on  the  reserve  plan. 
This  assumes,  and  purposely  so,  that  no  individual  in 
a  normal  physical  condition  with  honest  intentions 
and  possessing  an  understanding  of  insurance  will 
purchase  a  policy  in  a  company  which  operates  on 
the  old  plan  of  assessmentism.  This  strong  state- 
ment, that  the  purchaser  of  insurance  on  the  assess- 
ment plan  is  either  ignorant  or  dishonest,  may  seem 
harsh,  but  we  believe  the  facts  warrant  the  state- 
ment. 

In  selecting  the  kind  of  policy,  whether  whole  life, 


INVESTMENTS  AND  INTEREST  225 

limited  payment  life,  endowment,  or  term,  the  pur- 
chaser will  be  governed  by  many  considerations, 
among  which  may  be  mentioned  the  extent  selecting  the 
of  his  obligations,  the  amount  and  char-  Pollcy- 
acter  of  his  present  and  prospective  income,  and  his 
age.  The  man  with  a  family  of  six  children  needs 
more  insurance  than  the  man  with  three  children, 
and  the  man  with  an  income  of  $5000  a  year  can 
purchase  either  more  insurance  or  the  more  expen- 
sive policies  than  a  man  with  an  income  of  $2000  a 
year. 

It  must  be  recognized  that  there  is  no  such  a  thing 
as  an  absolutely  best  policy,  no  more  so  than  there  is 
an  absolutely  best  company.  It  must  also  No  «Best" 
be  understood  that  what  is  the  best  policy  Policy- 
for  the  buyer  at  the  time  of  the  purchase  may  not 
be  the  best  twenty  years  later,  when  his  family  posi- 
tion is  different.  The  change  in  the  relations  of  a 
man  to  his  obligations  and  the  difference  in  his  ability 
at  later  periods  to  meet  them  make  it  absolutely  im- 
possible to  select  a  policy  that  is  certain  to  be  through- 
out its  length  the  absolute  best  for  him.  For  this 
reason  those  policies  which  permit  change  in  the 
beneficiary  and  the  terms  of  settlement  commend 
themselves  to  many  buyers. 

The  ordinary  life  policy  is  not  held  in  great  favor 
and  most  of  the  insurance  now  in  force  is  on  the 
limited  payment  life  and  endowment  plans.  This 
lack  of   appreciation  of   the  ordinary  life  policy  is 


226  PRINCIPLES   OF  INSURANCE 

unfortunate,  but  the  insurance  officials  and  not  the 
public  are  largely  responsible  for  this  condition.  In 
the  early  days  of  insurance,  when  this  policy  was  the 
one  usually  purchased,  the  companies  were  led,  as  we 
have  seen,  to  make  promises  of  large  dividends,  which 
were  never  realized.  Many  policyholders  were  forced 
to  lapse  their  policies.  In  the  second  place,  the 
plan  of  paying  commissions  on  the  percentage  plan, 
especially  since  the  larger  commissions  were  given 
for  other  forms  of  policies,  caused  the  life  policies  to 
be  neglected.  In  the  third  place  the  absence  of 
saving  banks  and  other  saving  institutions  in  many 
localities  caused  the  purchasers  of  insurance  to  select 
the  endowment  and  limited  payment  policy  with 
higher  premiums  than  the  whole  life  policy  because 
they  served  as  a  method  of  saving. 

The  ordinary  life  policy  on  account  of  its  low  pre- 
mium recommends  itself  to  at  least  two  fairly  well  de- 
Advantages    fined  classes  :  (a)  those  receiving  relatively 

of  the  Ordi-    sman  incomes  ;    n>\  those  who  receive  mod- 
nary  Life  v  -/ 
Policy.           erate    but    certain    incomes    during    the 

productive  years  of  their  lives  and  who  have  large 

family  obligations.     They  are  able  on  account  of  the 

low  premium  to  carry  a  large  amount  of  insurance 

during  the  period  of  dependency  of  the  children  and 

beyond  this  period  the  premiums  may  either  be  paid 

in  part  by  the  children  or  the  policies  surrendered  or 

changed   to  paid  up  insurance,   assuming  that   the 

policyholder  is  not  financially  able  to  keep  up  the 


INVESTMENTS  AND  INTEREST  227 

payments.  The  ordinary  life  policy  of  a  present-day 
insurance  company  has  so  many  privileges  in  the 
contract  and  is  so  excellent  as  to  its  general  character 
that  it  is  a  great  misfortune,  both  to  the  public  and 
the  insurance  business,  that  it  is  not  more  frequently 
sold.  There  is  some  evidence,  however,  that  this 
policy  will  become  more  popular,  as  the  public  and 
the  insurance  officials  become  divorced  from  the  idea 
that  insurance  is  an  investment. 

The  limited  payment  life  policies  commend  them- 
selves to  those  individuals  who  desire  their  premium 
payment  period  to  be  confined  well  within  Advantages 
their  productive  years.     This  policy  will  ofthe 

r  J  .  Limited 

appeal  to  the  young  man  who  is  uncertain  Payment 
of  an  income  after  a  given  period  or  who  °  cies* 
does  not  wish  insurance  to  be  a  part  of  his  annual 
expenses  after  middle  life.  Out  of  the  relatively  large 
and  certain  income  of  his  early  productive  years,  he 
pays  for  his  insurance.  He  has  the  satisfaction  of 
realizing  that  he  has  purchased  and  paid  for  the  pro- 
tection which  his  family  has  a  right  to  expect  from 
him.  This  policy  is  also  often  selected  by  the  man 
of  middle  age  who  has  previously  neglected  to  pur- 
chase protection,  but  who  wishes  then  to  buy  it  and 
pay  for  it  while  he  is  yet  a  producer.  The  ordinary 
life  policy  premium  may  cause  an  undue  pressure  on 
the  decreasing  income  of  his  declining  productivity. 
The  length  of  the  premium  paying  period,  that  is, 
whether  a  10,  15,  20  or  30  year  life  payment  policy 


228  PRINCIPLES   OF  INSURANCE 

is  selected,  will  be  determined  by  the  prospect  of  his 
years  of  productivity.  The  man  of  45  years  of  age 
can  purchase  a  ten  payment  policy  and  thus  complete 
his  payments  well  within  his  productive  years.  The 
young  man  of  25  years  of  age,  receiving  a  salary 
which  will  probably  decrease  rapidly  after  45,  can 
purchase  a  twenty  payment  policy  at  a  rate  not 
greatly  in  excess  of  the  ordinary  life  policy  premium 
and  complete  his  payments  before  his  salary  decreases. 
The  endowment  policies  commend  themselves  to 
those  who  desire  to  have  in  addition  to  the  protection 
Advantages  a  material  incentive  to  save.  The  pre- 
of  the  En-      miums  are  considerably  higher  than  those  in 

dowment  J      ° 

Policies.  the  other  policies  for  the  reasons  discussed 
in  a  previous  chapter.  They  not  only  afford  a  means 
of  saving  for  the  young  man  or  woman,  but  they  also 
mature  at  a  time  when  the  individual,  as  a  result  of 
his  larger  business  experience,  is  often  better  able  to 
make  profitable  investments  of  large  funds.  If  past 
investments  have  been  wisely  made  from  other  sav- 
ings and  the  individual  does  not  need  the  face  of  the 
policy  for  current  use,  he  may  purchase  a  considerable 
amount  of  paid  up  insurance  because  his  insurance 
premiums  have  been  large.  Again  this  policy  has 
larger  loan  values  than  any  other  policy,  and  this 
sometimes  becomes  an  advantage  for  the  young  person. 
The  argument  that  the  individual  could  secure  a 
better  return  if  he  would  invest  his  savings  in  a  sav- 
ings institution,  organized  for  that  purpose,  is  more 


INVESTMENTS  AND  INTEREST  229 

interesting  than  true,  for  the  average  individual  will 
not  save  regularly  unless  under  pressure.  No  one 
compels  him  to  go  to  the  savings  bank  to  make  his 
deposits  and  no  one  prevents  him  from  withdrawing 
them  at  his  pleasure. 

The  term  policy  can  be  recommended  only  as  a 
temporary  expedient.  It  is  no  cheaper  than  any 
other  form  of  insurance,  but  since  the  im-    .  a 

Advantages 

mediate  outlay  is  small,  it  commends  itself  of  the  Term 
to  those  who  incur  temporary  obligations 
or  to  the  man  with  the  family  whose  present  financial 
condition  will  not  permit  of  larger  outlays  for  insur- 
ance, but  whose  financial  condition  in  the  near  future 
will  permit  a  transfer  to  one  of  the  other  kinds  of 
policies. 

After  deciding  the  kind  of  a  policy  which  he  needs, 
the  prospective  purchaser  must  select  a  company,  and 
this  is  a  selection  which  is  doubtless  made  selecting  a 
with  the  least  intelligence  because  the  Company, 
average  person  does  not  know  how  to  compare  com- 
panies and  the  average  insurance  agent  does  not 
make  a  practice  of  advertising  the  good  points  of 
companies  other  than  the  one  whose  policies  he  sells. 
The  prospective  purchaser  should  examine  the  annual 
reports  of  the  companies,  the  annual  statements 
made  to  his  state  insurance  department  and  the  gain 
and  loss  exhibit,  if  the  latter  is  available.  From 
these  sources  he  will  secure  information  on  the  fol- 
lowing subjects :  (a)  The  character  of  the  investments, 


230  PRINCIPLES   OF  INSURANCE 

that  is,  in  what  manner  the  insurance  funds  are  secured 
and  what  they  are  earning ;  (5)  the  liabilities  of  the 
company  and  the  relation  of  the  assets  to  it ;  (c)  the 
expenses,  that  is,  how  much  money  is  being  spent  to 
maintain  the  company  a  going  concern  and  how 
much  money  is  spent  to  secure  new  business;  (c?) 
the  ratio  of  actual  to  calculated  mortality ;  (e)  the 
number  of  lapses;  (/)  the  amount  of  the  surplus 
and  the  manner  of  its  division,  that  is,  how  much  is 
retained,  how  much  is  paid  to  policyholders  as 
dividends,  and  how  much  to  stockholders,  if  it  is  a 
stock  company. 

It  will  also  be  advisable  for  the  intending  purchaser 

to  ask  the  companies  in  which  he  is  interested  or  the 

agents  to  supply  him  with  a  statement  of  the 

Com^an/by  dividends    paid   on   policies   of  the   kind 

its  Divi-         which  he  desires.     This  statement  should 

dends. 

show  the  dividends  paid  for  the  past 
several  years,  for  manifestly  one  year's  dividends 
are  not  sufficient  to  determine  a  fair  judgment.  He 
will  not  lay  too  much  stress  on  dividends  as  a  crite- 
rion for  comparing  companies  because  a  good  policy 
has  many  other  important  characteristics  besides 
good  dividends.  If  the  purchaser  is  seeking  to  com- 
pare participating  with  nonparticipating  policies,  he 
will  need  to  be  careful,  lest  he  make  false  conclusions 
in  regard  to  apparent  cheapness.  The  dividend 
scale  on  the  particular  policy  of  the  participating 
company  will  aid  in  comparison.     That  is,  he  can 


INVESTMENTS  AND  INTEREST  231 

deduct  it  from  the  premium  and  compare  the  result 
with  the  premium  of  the  nonparticipating  company. 
However,  this  is  not  conclusive  proof.  He  must  ask 
himself  what  return  he  could  secure  for  himself  on 
these  small  annual  sums  which  represent  dividends 
paid  to  him  by  the  participating  company  or  not 
collected  from  him  by  the  nonparticipating  company. 
He  must  understand  that  the  nonparticipating  premium 
includes  a  loading,  but  not  the  same  degree  of  loading 
as  does  the  participating  premium.  Possibly  some 
participating  company  can  secure  for  him  accumula- 
tions which  in  the  end  will  make  his  participating 
policy  quite  as  cheap  as  his  nonparticipating  policy. 
It  is  not  sought  in  these  statements  to  make  any 
claims  of  advantages  for  either  one  or  the  other  kind 
of  policy,  but  rather  to  encourage  the  purchaser  to 
make  a  careful  investigation  in  order  that  he  may 
secure  that  policy  which  is  best  suited  to  his  needs. 

After  the  prospective  purchaser  has  informed 
himself  on  these  points,  he  will  then  make  a  compari- 
son of  the  terms  of  the  contract  of  different  comparing 
companies.  This  problem  has  been  solved  the  Contract, 
in  part  for  him  by  the  enactment  of  the  standard 
provision  laws  which  require  all  policies  to  contain 
certain  provisions,  which  have  been  discussed  in  a  pre- 
vious chapter.  There  remains,  however,  some  points 
of  difference  in  the  policies  of  different  companies. 

He  will  examine  the  options  in  settlement,  both  upon 
maturing  and  lapsing  the  policy;  the  restrictions  of  the 


232  PRINCIPLES   OF  INSURANCE 

policies  ;  the  terms  or  conditions  of  loans ;  the  freedom 
with  which  he  may  change  to  other  forms  of  policies 
and  change  the  beneficiary.  He  will  also  examine  the 
guaranteed  values,  if  any,  on  the  different  policies. 
He  may  also  give  some  weight  to  the  character  of 
the  representatives  of  the  companies  who  solicit  his 
insurance,  for  a  good  insurance  company  will  not 
knowingly  keep  in  its  employment  a  dishonest  rep- 
resentative. After  he  has  made  all  these  examinations 
and  comparisons,  the  purchaser  of  insurance  should 
complete  the  task  by  acquainting  himself  thoroughly 
with  the  terms  of  his  contract.  Every  sentence 
deserves  careful  study,  and  he  owes  it  to  himself,  his 
family,  and  society  to  make  himself  an  intelligent 
holder  of  insurance  in  order  that  he  may  fulfill  his 
part  of  the  contract,  secure  the  protection  for  his 
family,  and  become  an  interpreter  to  and  missionary 
for  the  uninsured. 

REFERENCES 

Zartman,  Lester.  The  Investments  of  Life  Insurance  Compa- 
nies. 

Annals  American  Academy  of  Political  Science.  Vol.  XXVI, 
pp.  256-268. 

Dawson,  Miles  M.  The  Business  of  Life  Insurance.  Chap. 
XXVII. 

Graham,  W.  J.    The  Romance  of  Life  Insurance.     Chap.  XI. 


CHAPTER  X 

THE  RELATION   OF   THE   STATE  TO   INSURANCE 

We   have  seen   from  the  previous  description  of 
the  character  of  insurance  and  the  methods  of  its  sale 
that  it  is  a  business  which  must  concern  it-  The  Theory 
self  with  large  numbers  of  individuals,     It  °f  the,  s*te 

°  Regulation 

demands  an  agreement  between  sellers  and  of  insurance, 
buyers  of  a  valuable  thing — indemnity  —  in  which 
the  terms  of  the  sale  are  frequently  misunderstood. 
It  demands  the  association  of  individuals  in  order  to 
secure  a  thing  which  no  one  could  secure  for  himself. 
It  is  a  cooperation  among  many  in  which  a  general 
interest  is  present,  but  in  which  also  an  individual  or 
a  group  of  individuals  may  seek  to  benefit  at  the  ex- 
pense of  the  many.  The  contracts  which  are  made 
run  for  long  periods  of  time  and  the  settlements  for 
which  they  provide  cannot  be  enforced  in  most  cases 
by  the  original  party  to  the  contract,  but  must  rest 
either  upon  the  good  faith  of  the  other  party  or  upon 
the  compulsion  of  a  third  party — the  state. 

Since  the  obligations  of  an  insurance  company  are 
chiefly  in  the  future,  errors  due  to  ignorance  or  dis- 
honesty do  not  immediately  disclose  themselves. 
The  policyholder  cannot  usually  withdraw  without 
loss  to  himself.     The  business  of  insurance,  both  on 

233 


234  PRINCIPLES   OF  INSURANCE 

account  of  the  difficulty  in  comprehending  the  prin- 
ciples underlying  it  and  also  on  account  of  the  com- 
plexity of  its  actual  transaction,  is  such  that  the 
average  policyholder  cannot  determine  for  himself 
the  soundness  of  the  company.  Even  if  he  should 
discover  evils  in  its  operation,  he  usually  neither 
knows  how  to  correct  them  nor  how  to  protect  him- 
self. The  business  of  insurance  is  almost  wholly 
conducted  with  the  funds  of  the  policyholder  who 
receives  for  his  payments  a  simple  promise  to  pay  a 
sum  at  some  future  time. 

There  would  therefore  seem  to  be  good  reasons  for 
the  activity  of  the  state  in  order  that  the  principles 
of  justness  and  equity  may  be  preserved.  The  state 
should  not  only  protect  the  weak  against  the  unjust 
activity  of  the  strong,  but  it  should  also  prohibit 
large  numbers  of  its  citizens  from  doing  an  injury  to 
themselves.  In  this  last  mentioned  capacity,  it  should, 
for  example,  prohibit  a  group  of  individuals  from 
organizing  themselves  into  a  body  to  do  a  thing  which 
past  experience  has  shown  to  be  impossible.  The 
state  is  particularly  interested  in  compelling  contracts 
to  be  carried  out  and  since  the  insurance  contract  in- 
volves rights  and  benefits  beyond  the  lifetime  of  one 
party  to  the  contract,  it  finds  an  important  sphere  of 
action  in  the  insurance  business.  It  is  also  inevitable 
when  a  business  has  to  do  with  so  many  persons,  as 
does  insurance,  that  some  of  these  persons  will  at 
times  attempt  to  practice  fraud  on  the  group,  and  this 


RELATION  OF  THE  STATE    TO  INSURANCE      235 

practice  the  state  must  seek  to  prohibit.  Although 
insurance  is  a  business  in  which  many  are  necessarily 
interested,  its  very  character  precludes  the  many| 
from  having  any  direct  part  in  the  actual  conduct  of\ 
the  business,  and  it  is  therefore  incumbent  upon  the 
state  to  do  what  it  can  to  protect  the  many  against 
the  possible  carelessness,  ignorance,  or  dishonesty  of 
some  officials  of  the  companies. 

It  is  coming  to  be  more  clearly  recognized  that  the 
state  amidst  the  present-day  complexity  of  commer- 
cial activities  and  the  intricacies  of  modern  business 
organization  cannot  depend  upon  publicity  and  com- 
petition to  secure  protection  to  its  citizens.  If  pub- 
licity simply  means  informing  the  public  of  what  an 
organization  is  doing,  the  state  defaults  its  duty  to 
its  citizens  by  this  negative  approval  of  the  thing 
done  and  leaves  in  many  cases  but  an  incomplete 
means  of  redress,  and  in  other  cases  none  to  its  citizens. 
While  the  old  recipe  of  competition  has  secured  some 
very  good  results  in  the  insurance  business,  especially 
in  the  liberalizing  of  the  policy  contract,  yet  it  has 
failed  in  many  other  respects.  Indeed,  the  excessive 
competition  for  business  among  some  companies  has 
led  to  extravagant  expenditures,  discriminations,  and 
other  well-marked  evils  until  we  have  felt  the  need 
of  protection  against  the  evils  of  competition  rather 
than  incentives  to  greater  competition. 

Since  the  state  is  responsible  for  the  existence  of 
corporations  and  since  the  rights  granted  to  insurance 


236  PRINCIPLES   OF  INSURANCE 

corporations  lead  to  the  creation  of  trust  funds,  it 
follows  that  the  state  must  see  to  it  that  these  sacred 
obligations  are  met  by  the  creature  which  it  has 
called  into  existence  —  the  corporation.  At  the  time 
of  the  adoption  of  the  Constitution  and  for  many 
years  later,  the  general  principle  of  little  government 
interference  in  industry  was  followed.  Few  evils,  so 
far  as  insurance  was  concerned,  resulted,  for,  as  we 
have  seen,  little  of  insurance  was  transacted  until 
after  183,5. 

Whatever  supervision  there  was  of  the  insurance 
business  was  at  first  primarily  for  the  purpose  of  ob- 
Character  of  taining  a  basis  for   raising  revenue,    and 

tioVbefore"  tms'  **  may  ^e  added,  *s  st^  an  important 
1855-  reason  for  supervision.     In  the  licensing 

of  companies  and  the  prevention  of  fraudulent  com- 
panies from  operating  within  a  state,  the  interest  of 
policyholders  was  probably  of  secondary  importance. 
In  time,  however,  as  the  business  grew  in  size  and 
complexity,  there  was  a  growing  realization  that  the 
state  must  take  a  more  active  part  in  regulating  a 
business  which  affected  so  large  a  number  of  people. 
In  addition,  there  had  been  organized  many  compa- 
nies of  a  fraudulent  character  between  the  years  1825 
and  1850  or,  if  not  fraudulent,  organizations  which 
operated  upon  the  unscientific  plan  of  assessmentism. 
The  evils  which  resulted  from  the  operation  of  these 
companies  were  probably  the  most  direct  cause  for 
the  demand  to  arise,  that  the  business  of  insurance 


RELATION  OF  THE  STATE    TO  INSURANCE     237 

be  more  closely  supervised  by  the  state.  Previous 
to  1855  the  state  had  been  satisfied  to  lay  down  in 
general  laws  the  terms  under  which  an  insurance 
company  could  be  organized  and  operated.  No  de- 
tailed reports  were  required  to  be  filed  and  no  re- 
serves to  be  maintained. 

Massachusetts  was  the   first  state  to  establish   a 
state  insurance  department.     This  was  done  in  1855, 
and  the  action  of  Massachusetts  was  fol-  EStablish_ 
lowed  by  New  York  in  1859,  by  Connecti-  ment  of  state 
cut    in    1865,  by  Ohio  in  1867,  and   by  ofinsur- 
Michigan  in   1871.      Every  state   in   the  ance* 
Union  now  supervises  the  insurance  business,  although 
in  some  states  the  department  is  only   a   separate 
bureau  under  the  direction  of  some  other  department 
of  state.       Where  there  is  no  separate  department, 
the  work  is  usually  placed  under  the  charge  of  the 
auditor,  treasurer,  or  secretary  of  state. 

The  departments  or  bureaus  are  supported  by  fees 
and  taxes  collected  from  the  insurance  companies,  but 
the  amount  of  funds  collected  bears  no  definite  rela- 
tion to  the  cost  of  maintaining  the  department. 

Although  Massachusetts  established  her  insurance 

department  in  1855,  no  standards  of  solvency  were 

required  until  1861..    No  other  state  es-  How  the 

tablished  such  standards  until  after   the   S1*te  Regu- 
lates Insur- 

Civil  War.     The  state  regulates  the  busi-  ance. 
ness  of  insurance  in  general  in  two  ways  :   (a)  by 
laws  governing  the  organization  of  companies  ;   (6) 


238  PRINCIPLES   OF  INSURANCE 

by  laws  governing  the  operation  of  companies. 
Again  the  difficult  task  confronts  us  of  making 
statements  which  will  be  true  in  the  different  states, 
for  whatever  supervision  there  is  results  directly 
from  the  action  of  each  of  the  state  legislatures. 

In  addition  to  the  general  laws  governing  the  or- 
ganization of  corporations,  there  are  in  most  states 
Regulations  special  laws  which  govern  the  organization 
in  respect  to  0f  insurance  companies.     The  terms  under 

organizing  « 

Companies.  which  such  companies  can  be  organized 
differ  according  to  the  character  of  the  organization, 
such,  for  example,  as  the  special  laws  governing  the 
organization  of  a  fraternal  society  or  the  ordinary 
level  premium  life  insurance  company.  Since  the 
latter  companies  do  the  greatest  amount  of  the  busi- 
ness and  also  are  the  ones  to  which  regulation  is 
chiefly  directed,  our  description  of  the  regulation  of 
the  organization  and  operation  of  insurance  companies 
may  be  taken  as  applicable  to  this  kind  of  a  company. 

A  very  general  requirement  for  such  corporations 
is  that  they  must  deposit  with  the  treasurer  of  state 
securities  to  the  value  at  least  of  $100,000.  This  is 
a  requirement  for  both  stock  and  mutual  companies 
proposing  to  insure  lives  on  the  level  premium  plan. 
Massachusetts  made  this  requirement  of  the  New 
England  Mutual,  which  was  organized  in  1835,  twenty 
years  before  her  state  insurance  department  was 
established. 

In  some  states  there  is  a  provision  requiring  the 


fiELATIOtf  OF   THE   STATE    TO  INSURANCE     239 

retirement  of  the  stock  of  the  proposed  mutual  com- 
pany with  a  maximum  interest  paid  upon  the  funds 
which  have  been  advanced  by  the  incorporators  of 
the  company  as  a  necessary  capital  to  pay  the  large 
initial  expenses  of  starting  the  company  in  business. 

The  laws  governing  the  organizations  of  com- 
panies differ,  of  course,  in  the  various  states,  but  the 
general  purpose  in  all  cases  is  to  lay  down  such 
principles,  as  will  insure  the  ability  of  the  compa- 
nies to  meet  their  obligations. 

The  value  of  a  deposit  as  a  guarantee  fund  after 
the  company  is  a  going  concern  is  very  questionable, 
since  the  company  is  setting  aside  a  reserve  and 
probably  a  surplus.  If  the  assets  of  a  company 
are  carefully  inspected  and  the  transactions  of  the 
company  supervised,  this  would  seem  to  give  all 
the  required  safety,  so  far  as  solvency  is  concerned. 

If  a  company  organized  in  one  state  desires  to  do 

business  in  another  state,  it  must  comply  with  the 

conditions  laid  down  by  the  state  which  Lawsgov- 

it    enters.      Insurance    is   not   commerce,  erning  Com- 
panies doing 
according  to  the  decision  of  the  Supreme  Business  in 

Court   and    the   various   states    may    lay  the  Home 

down  in  detail  the  conditions  under  which  State- 

a  company  is  permitted  to  do  business.     They  must 

satisfy  the  authorities  of   the    state    that   they   are 

able    to    meet    their    obligations.      A    copy    of    the 

charter  granted  by  the  parent   state,    as    well  as   a 

certificate  showing  that  it  is  authorized  to  do  busi- 


240  PRINCIPLES  OF  INSURANCE 

ness,  is  filed ;  also  a  statement  of  its  financial 
condition  showing  income,  disbursements,  and  a 
certificate  showing  that  it  has  deposited  with  the  offi- 
cials of  the  home  state  a  deposit,  usually  a  minimum 
one  of  1100,000.  It  also  files  the  valuation  of  its 
policies  made  by  the  insurance  department  of  the 
home  state  and  a  copy  of  all  the  policies  which  it 
proposes  to  write.  Its  agents  appointed  or  to  be 
appointed  must  secure  a  license  from  the  proper 
authority.  Other  information  bearing  upon  the 
character  of  the  company  and  its  methods  of  oper- 
ation is  secured  by  the  proper  state  authority, 
usually  the  state  insurance  commissioner.  If  all 
this  information  seems  to  satisfy  the  state  laws, 
the  company  is  admitted  by  a  certificate  from  the 
commissioner  of  insurance  to  do  business  in  the 
state.  The  admitted  company  is  then  subject  in  its 
operation  to  the  laws  of  the  state  on  insurance.  Some 
states  entrust  very  large  powers  to  the  commissioner 
of  insurance,  while  others  lay  down  in  statute  law 
in  detail  the  requirements  for  transacting  the  insur- 
ance business  and  require  the  commissioner  to  exe- 
cute these  laws  with  little  discretionary  powers. 
In  either  case  the  courts  of  the  state  can  restrain 
the  officials  from  violating  the  principles  of  equity. 
In  most  states  the  certificate  of  the  commissioner 
of  insurance  regarding  the  condition  of  the  company 
is  accepted  in  other  states,  but  an  examination  of 
a  foreign  company  can  be    made  at  any  time  and 


RELATION  OF  THE  STATE    TO  INSURANCE     241 

such  examinations,  although  not  infrequent  in  the 
past,  are  becoming  less  frequent.  One  of  the  most 
important    committees    of    the    National  „      ,     , 

r  Examination 

Association  of  Insurance  Commissioners  ofCom- 
is  the  committee  on  examinations.  This  pames* 
committee  acts  as  a  clearing  house  of  informa- 
tion for  the  various  state  departments  of  insurance. 
It  has  already  done  away  with  some  of  the  evils 
connected  with  the  numerous  and  sometimes  un- 
necessary examinations  made  by  numerous  states. 
The  examinations  made  by  this  committee  are  ac- 
cepted in  many  cases  by  the  state  departments,  al- 
though, of  course,  any  state  has  the  right  to  conduct 
a  separate  examination.  The  examinations  made  by 
this  committee  and  used  by  the  various  state  de- 
partments does  not  refer  to  the  annual  examinations, 
but  to  those  comprehensive  examinations  of  a  com- 
pany's business  which  are  made  from  time  to  time, 
especially  when  suspicion  arises  concerning  the  con- 
duct of  a  company's  affairs.  Such  examinations 
would  naturally  be  of  companies  doing  business  in 
several  states  at  the  particular  time. 

Independent  of  these  special  examinations  each 
state  makes  an  examination  of  its  own  companies. 
In  some  states  this  examination  is  required  every 
year  ;  in  other  states  every  two  or  three  years.  This 
annual,  biennial,  or  triennial  examination  by  the 
state  department  ordinarily  concerns  itself  with  an 
examination   of    the   transactions   of    the   company 


242  PRINCIPLES   OF  INSURANCE 

during  the  preceding  calendar  year.  The  exam- 
iners take  the  last  annual  report  and  verify  it.  The 
items  of  income  and  disbursement  are  checked  from 
the  company's  books.  The  assets  are  inspected  ;  all 
mortgages  are  inspected  as  to  title  and  their  propor^ 
tion  to  the  value  of  the  property  ;  the  cash  in  office 
and  banks  is  checked  ;  and  care  is  exercised  to  dis- 
cover any  weakness  or  any  statutory  violations  of  the 
investments.  The  liabilities  must  also  be  carefully 
investigated. 

The  principle  of  state  comity  applies  in  many 
particulars,  but  it  has  far  from  accomplished  com- 
plete  uniformity.  The  National  Associa- 
in  insurance  tion  of  Insurance  Commissioners  has  done 
much  in  establishing  uniformity  in  certain 
directions,  such,  for  example,  as  providing  uniform 
blanks  upon  which  a  company  reports  its  condition 
to  the  insurance  department.  In  many  other  cases, 
especially  taxation,  no  uniformity  is  found.  It  is 
also  generally  true  that  home  companies  are  favored 
over  those  of  other  states  in  one  way  and  another. 
A  favorite  method  is  by  a  lower  rate  of  taxation 
or  no  taxation  at  all  on  premium  receipts. 

The  state   has    laid    down    certain    standards   of 

solvency  by  requiring  the  use  of  one  of  the  accepted 

mortality    tables    and    the    valuation    of 

Laws  gov-  J 

erning  Sol-     policies  must  be  made  according  to  that 

table  with  interest  at  3  per  cent  or  2>\  per 

cent.     In  determining  the  reserve  liability  of  a  life 


RELATION  OF  THE  STATE    TO  INSURANCE     243 

insurance  company  the  state  insurance  department 
generally  uses  mean  —  or  midyear  —  reserves  on  the 
assumption  that  policies  issued  uniformly  throughout 
the  year  are  all,  on  the  average,  issued  July  1  of 
that  year,  and  hence  when  the  valuation  of  a  com- 
pany's policies  are  made,  as  of  December  31  of  any 
year,  the  policies  are  all  at  their  midyear.  The  mid- 
year, or  mean  reserves  are  obtained  by  taking  the 
half  sum  of  the  reserves  at  the  beginning  and  end  of 
each  year  on  the  assumption  that  a  full  annual  pre- 
mium is  paid  on  every  policy.  Consequently  de- 
ferred premiums  to  complete  a  full  policy  year 
are  allowed  in  the  assets.  In  industrial  insurance 
the  mean  reserves  just  referred  to  are  reduced  by 
one  half  a  net  annual  premium  for  a  given  kind  and 
age,  and  deferred  premiums  are  not  allowed  in  the 
assets.  On  account  of  the  heavy  lapses  in  industrial 
insurance  some  reduction  is  usually  made  on  first 
year  reserves  —  about  one  half  —  and  on  second  year 
reserves  about  one  quarter. 

The  chief  difference  of  opinion  as  to  the  proper 
methods  of  determining  solvency  has  arisen  in 
connection  with  the  valuation  of  first  year  busi- 
ness. New  York  uses  the  select  and  ultimate 
method  ;  that  is,  it  assumes  50  per  cent  of  the  ex- 
pected mortality  will  result  on  first  year's  business, 
65  per  cent  on  the  second,  75  per  cent  on  the  third, 
85  per  cent  on  the  fourth,  and  95  per  cent  on  the 
fifth.     This  assumption  permits  mortality  gains  to 


244  PRINCIPLES   OF  INSURANCE 

be  used  for  expenses.  In  other  states  the  pre- 
liminary term  or  modified  preliminary  valuations 
are  used.  The  latter  plan  views  the  first  year  of 
insurance  as  term  insurance  or  part  term  insurance, 
thus  also  setting  free  a  large  part  of  the  premium  for 
the  large  expenses  connected  with  writing  the  policy. 
In  valuing  assets  certain  rules  are  laid  down  for 
valuing  stocks  and  bonds.  The  market  value  on 
December  31  has  generally  been  used,  but  in  the 
last  two  or  three  years  the  amortization  plan  has 
been  adopted,  by  which  the  values  do  not  fluctuate 
with  the  market,  but  increase  or  decrease  uniformly 
to  par  value  so  as  to  yield  the  same  effective  rate  of 
interest  throughout  the  period.  Home  Office  build- 
ings and  real  estate  owned  by  the  company  are 
valued  by  the  local  appraisers  who  know  the  value 
of  the  property. 

A  requirement  of  many  states  is  that  a  company  is 
not  permitted  to  write  both  participating  and  non- 
participating  policies  or,  if,  both  kinds  are 
tory  Re-  written,  it  is  required  that  they  be  kept 
qmremens.  separa£e  jn  £ne  bookkeeping  of  the  com- 
pany. The  tendency  is  for  stock  companies  to  write 
nonparticipating  policies  and  mutal  companies  to 
write  participating  policies.  It  was  urged  that  the 
evidence  in  the  insurance  investigation  beginning  in 
1905  showed  that  in  actual  practice  the  equity  of 
each  kind  of  policyholders  was  not  observed. 

Annual  distribution  of  dividends  is  a  very  general 


RELATION  OF  THE  STATE  TO  INSURANCE      245 

requirement.  Standard  provisions  are  required  in  all 
policies.  These  have  to  do  with  cash  surrender 
values,  options  in  settlement,  loans,  lapses,  payment 
of  premiums,  and  claims  and  many  other  subjects 
which  are  of  general  interest  to  all  possessors  of  an 
insurance  policy. 

As  a  result  of  the  investigation,  New  York  re- 
quired a  standard  policy,  but  after  two  years'  ex- 
perience with  it,  the  law  was  changed  to  require 
standard  provisions  in  policies.  The  subject  of 
investments  is  one  upon  which  there  has  been  a 
great  amount  of  legislation.  Not  only  has  the  state 
prohibited  certain  kinds  of  investments,  as,  for 
example,  the  permanent  possession  of  real  estate,  but 
it  has  further  limited  them  by  specifying  in  what 
kind  of  securities  the  assets  can  be  invested.  This 
kind  of  regulation  was  adopted  in  many  states  before 
the  establishment  of  the  insurance  departments,  since 
the  importance  of  having  these  funds  securely  in- 
vested was  early  recognized.  The  first  restrictions 
were  chiefly  applicable  to  the  original  deposit,  but  by 
1875  a  number  of  states  had  restricted  the  invest- 
ments of  the  general  assets.  At  present  the  restric- 
tions as  to  the  character  of  the  securities  differ  con- 
siderably in  the  different  states.  In  all  states  invest- 
ments in  government  bonds  are  permitted,  although 
a  few  states  limit  the  investment  in  bonds  of  other 
than  the  home  state.  Some  confine  mortgage  loans 
to  the  home   state  of  the   company.     Most  of  the 


246  PRINCIPLES   OF  INSURANCE 

states  very  carefully  restrict  the  investments  in  cor- 
poration securities.  New  York  prohibits  all  com- 
panies doing  business  in  the  state  from  investing  in 
corporation  stocks.  Ohio  follows  the  same  practice. 
In  the  latter  state,  state  and  local  government  bonds 
cannot  be  purchased  when  their  market  value  is  less 
than  80  per  cent  of  their  par  value. 

We  may  summarize  the  regulations  regarding  in- 
vestments as  follows:  (a)  The  tendency  to  prohibit 
the  investments  in  real  estate  except  for  Home  Office 
Buildings  is  marked,  but  more  liberality  is  made  in 
regard  to  loans  on  real  estate  ;  (b)  more  liberal  pro- 
visions regarding  the  investment  in  public  securities 
and  stricter  regulations  of  the  investments  in  cor- 
poration securities  is  the  general  rule. 

Some  states,  notably  Texas,  have  shown  a  decided 

disposition  to  require  a  large  amount  of  the  reserve 

funds   on    policies   to  be  invested  in  the 
Investments  x 

of  Reserves  securities  of  the  state.  Texas  has  not, 
m  however,  been  alone  in  the  effort  to  make 

a  market  for  the  securities  of  the  state,  for  almost  all 
the  early  charters  showed  a  tendency  to  confine  the 
investments  to  the  home  state.  So  far  as  the  legis- 
lation had  for  its  purpose  the  protection  of  the  funds 
by  making  possible  a  better  knowledge  of  their  actual 
value,  there  was  some  justification  for  the  policy  in 
the  early  days,  when  correct  estimation  of  the  value 
of  securities  could  not  be  easily  made.  So  far  as  the 
legislation  has  for  its  purpose  the  keeping  of  money 


RELATION  OF  THE  STATE    TO  INSURANCE     247 

within  the  state,  it  was  more  than  questionable,  for  if 
the  securities  purchased  must  have  a  market  made 
for  them,  this  fact  was  at  least  presumptive  evidence 
that  these  securities  might  not  be  desirable  ones  for 
an  insurance  company. 

The  purpose  of  regulating  the  investments  of  in- 
surance has  been  to  limit  the  investments  to  such 
securities  as  will  bear  the  inspection  of  the  public 
and  guarantee  the  security. of  the  funds.  There  are 
many  who  think  that  the  restrictions  are  too  severe 
and  that  a  wide  range  of  investments  should  be  per- 
mitted under  the  supervision  of  the  insurance  depart- 
ments. But  the  element  of  risk  is  so  frequently 
present  in  corporation  securities  and  the  public  de- 
mand is  so  insistent,  and  rightly  so,  for  security  as  the 
first  test  of  an  insurance  investment,  that  notwith- 
standing the  greater  return  to  be  often  procured  from 
corporation  securities,  there  is  no  immediate  prospect 
that  the  field  of  investments  will  be  widely  extended. 

Certain  regulations  have  been  attempted  in  regard 
to  the  remuneration  of  officials  and  agents.  Some 
states  have  established  a  maximum  salary  _  ,   . 

J     Salaries  and 

to  be  paid  to  the  president  and  maximum  Commis- 
commissions  to  agents  and  especially  the 
amount  of  renewal  commission  to  be  paid,  that  is,  the 
amount  paid  to  the  agent  on   premiums  subsequent 
to  the  first. 

Most  of  the  states  have  laws  prohibiting  rebating, 
that  is,  the  reduction  by  the  agent  to  the  purchaser 


248  PRINCIPLES   OF  INSURANCE 

of  the  first  premium  ;    in  most  cases  the  penalties 

imposed  apply  only  to  the  agent  giving  the  rebate. 

There  is  a  tendency  in  some  quarters  to 

Rebating.  .  J .    .  /    , 

punish  both  the  recipient  and  giver  of  a 
rebate.  No  company  or  its  employees  are  permitted 
in  most  states  to  issue  any  estimate  misrepresenting 
the  terms  of  any  policy  issued  by  it  or  the  benefits  or 
advantages  promised. 

New  York  also  established  a  limitation  on  the 
amount  of  new  business  which  could  be  written  in  any 
New  Busi-  one  year.  This  limit  is  decreasing  in  its 
ness.  percentage  with  the  increase  in  the  amount 

of  business  on  the  books  of  the  company.  The  New 
York  law  also  limits  the  amount  of  the  contingent 
reserve  or  surplus  which  can  be  held  by  a  company. 

All  the  states  require  annual  reports  to  be  made  to 
a  state  department  by  each  company  doing  business 
Annual  Re-  iQ  the  state.  While  the  regulations  on 
wrts.  this  subject  differ  somewhat  in  the  different 

states,  there  is  a  tendency  to  secure  uniformity  in 
these  reports,  as  a  result  of  the  activities  of  the  Na- 
tional Association  of  Insurance  Commissioners,  which 
has  a  permanent  committee  on  blanks  that  has  drawn 
up  uniform  blanks,  upon  which  the  different  kinds  of 
insurance  companies  report.  These  blanks  are  re- 
vised from  year  to  year  as  new  laws  or  experience 
may  necessitate.  The  chief  items  of  information 
found  in  these  reports  are  as  follows  :  first  year's  pre- 
miums, renewal  premiums,  interest,  and  rents,  which 


RELATION  OF  THE  STATE   TO  INSURANCE     249 

comprise  the  source  of  income  ;  the  amount  paid 
for  losses  and  matured  endowments,  annuities,  divi- 
dends, salaries,  taxes,  and  expenses,  which  make  up 
the  chief  disbursements  ;  various  schedules,  such  as 
the  schedule  showing  the  dividends  paid  on  different 
kinds  and  classes  of  policies  and  the  schedule 
showing  the  character  of  the  investments.  Other 
parts  of  the  report  show  the  condition  of  the  reserve, 
surplus,  the  assets,  and  liabilities  of  all  kinds.  The 
report  as  a  whole  gives  to  the  public  an  analysis  of 
the  financial  condition  and  the  status  of  the  company, 
as  well  as  information  about  commissions,  medical  ex- 
aminations, advertising,  taxes,  legal  expenses,  lapses, 
the  surplus,  reserve,  and  other  items,  which  will  give 
to  the  public  a  knowledge  of  the  transactions  of  the 
company.  There  is  a  very  marked  tendency  to  require 
the  reports  to  be  made  in  greater  detail. 

The  subject  of  taxation  is  one  to  which  the  com- 
panies have  most  consistently  and  continuously  ob- 
jected.    These  objections  are  based  upon 

x^.  •       V        .         Taxation. 

two  grounds  ;  First,  it  is  argued,  that  in- 
surance is  not  a  proper  source  of  revenue  for  the  state, 
and  second,  that  there  is  no  uniformity  in  the  tax  in 
the  different  states.  It  is  argued  that  insurance  is 
not  productive  ;  that  it  does  not  lead  directly  to  the 
creation  of  wealth,  but  on  the  contrary  aids  greatly 
in  the  more  equal  distribution  of  wealth  ;  that  it  is 
a  fund  set  aside  from  income  to  care  for  those  de- 
pendent upon  the  producer  and  thus  relieves  the  state 


250  PRINCIPLES   OF  INSURANCE 

from  supporting  some  who  otherwise  would  either 
become  subject  to  their  charity  or  would,  through 
lack  of  adequate  preparation,  be  inefficient  producers 
and  citizens  ;  that  the  insurance  policy  is  not  a  form 
of  income  bearing  property  ;  that  the  premiums  are 
a  form  of  a  self-imposed  tax. 

It  is  urged  that  the  policyholder  must  in  the  end 
bear  the  tax  in  the  form  of  a  higher  premium,  and 
thus  the  tax  acts  to  discourage  insurance  by  increas- 
ing its  cost.  That  whatever  of  funds  are  collected 
from  policyholders  are  so  invested  that  they  either 
bear  a  tax  by  their  investment  in  real  estate  loans  or 
aid  the  treasury  of  the  state,  if  they  are  invested  in 
state  or  local  government  securities.  At  the  farthest 
those  who  object  to  taxation  of  insurance  receipts 
would  permit  only  such  a  tax  as  would  support  the 
insurance  department  of  the  state,  that  is,  an  inspec- 
tion tax  or  fee.  The  taxes  are  usually  levied  on  the 
gross  premium  receipts  derived  from  the  policyholders 
in  the  state,  but  in  addition  there  is  sometimes  a  state 
license  tax,  a  charge  for  filing  the  annual  statement, 
agent  licenses,  and  a  city  and  county  tax  on  premiums. 
The  last  name  is  a  peculiarity  of  the  taxes  of  several 
of  the  southern  states. 

The  home  companies  are  frequently  exempted  from 
paying  some  of  these  taxes,  but  this  practice  does 
not  often  accomplish  the  purpose  intended,  that  is, 
it  does  not  give  preference  to  home  companies,  be- 
cause most  of  the  states  have  a  retaliatory  law  which 


RELATION  OF  THE  STATE    TO  INSURANCE     251 

is  automatic  in  its  operation.  An  Ohio  company,  for 
example,  although  exempt  from  taxes  on  its  premium 
receipts  in  Ohio,  must  pay  taxes  in  other  states  where 
it  does  business,  because  the  home  companies  of  those 
other  states  must  pay  premium  taxes  in  Ohio,  if  they 
do  business  in  Ohio. 

The  state  tax  on  gross  premiums,  although  in  a  few 
cases  it  is  on  the  net  receipts,  varies  from  1  per  cent 
to  3  per  cent.  The  amount  collected  by  the  states 
in  the  form  of  licenses,  fees,  fines,  and  taxes  —  exclud- 
ing taxes  on  real  estate  owned  —  from  ordinary  life 
and  industrial  companies  in  1909  was  $9,708,241. 
This  was  2.4  per  cent  of  the  total  premium  receipts 
of  these  companies  during  that  year.  It  has  been 
urged  that  the  tax  should  be  added  to  the  premiums 
charged  in  each  state  and  therefore  assessed  upon 
those  policyholders  whose  state  exacts  the  tax.  What- 
ever theoretical  justification  this  plan  has  as  a  matter 
of  equity,  it  is  practically  impossible,  since  among 
other  difficulties  it  would  involve  different  rate  books, 
policies,  and  reports  for  the  different  states,  and  add 
enormously  to  the  bookkeeping  work  of  the  company 
and  doubtless  would  be  a  violation  of  the  antidis- 
crimination statutes  of  some  states. 

The  reasons  for  the  existence  of  the  tax  are  not 
difficult  to  understand.  The  legislator  in  a  democ- 
racy is  constantly  seeking  revenue  from  sources  from 
which  objections  will  not  be  made.  The  large  ac- 
cumulations of  funds  by  the  insurance  companies  can 


252  PRINCIPLES   OF  INSURANCE 

be  used  without  great  popular  objection.  Notwith- 
standing that  these  funds  are  chiefly  liabilities  for 
obligations  already  incurred,  they  afford  a  ready 
source  of  revenue.  The  real  owners  of  these  funds 
—  the  policyholders  —  do  not  often  perceive  the  bur- 
dens, since  they  are  very  numerous  and  the  amount 
borne  by  each  is  very  small.  The  availability  of  the 
funds  for  taxation  and  the  absence  of  any  great 
popular  objection  to  the  tax  would  therefore  seem  to 
be  the  chief  reason  for  the  tax.  It  is  easy  to  get  and 
therefore  is  taken  without  much  consideration  of  the 
equity  of  the  taking. 

From  insurance  officials  and  many  students  of  in- 
surance a  demand  has  arisen  for  the  federal  regulation 
„  a     .  of   insurance.     This  can  be  accomplished 

Federal  ver-  * 

sus  state  either  by  an  amendment  to  the  constitution 
egua  on.  or  ^  securing  a  reversal  of  the  decision 
of  the  Supreme  Court  in  the  case  of  Paul  v.  Virginia, 
in  which  the  court  decided  that  insurance  was  not 
commerce  and  therefore  not  subject  to  the  regulation 
of  Congress.  We  may  briefly  summarize  the  reasons 
for  this  demand  for  federal  regulation  :  First,  the  busi- 
ness has  become  interstate  in  its  character,  for  no  im- 
portant company  confines  its  activities  to  a  single 
state.  By  entering  a  number  of  states,  it  secures  a 
wider  distribution  of  its  risk  on  lives  as  well  as  on 
its  investments  and  thus  is  likely  to  secure  better 
average  results.  Second,  the  very  general  absence  of 
uniformity  in  the  regulations  of  the  different  states 


RELATION  OF  THE  STATE    TO  INSURANCE     253 

which  makes  more  difficult  and  expensive  the  trans- 
action of  the  business.  Third,  the  heavy  burden 
placed  on  the  business  in  the  form  of  taxes  and  the 
lack  of  uniformity  in  these  taxes.  Fourth,  the  dif- 
ference in  the  state  laws  governing  the  making  and 
construing  of  the  contract,  and  the  limitation  placed 
upon  the  judicial  rights  of  the  company. 

At  least  fifteen  states  have  enacted  a  law  which 
either  prohibits  or  very  greatly  restricts  the  right  of  a 
company  to  remove  a  case  from  the  state  to  the  fed- 
eral courts.  In  case  the  company  does  remove  the 
case,  the  insurance  commissioner  is  given  the  right 
to  revoke  its  certificate  to  do  business  in  the  state. 
Fifth,  the  preference  of  home  companies  over  com- 
panies of  other  states.  Sixth,  the  failure  of  publicity 
and  regulation  under  state  laws  to  accomplish  their 
purpose. 

Publicity  as  it  is  now  provided  cannot  protect  the 
policyholder  in  many  respects.  Many  policyholders 
cannot  analyze  the  reports  of  companies  sufficiently 
to  determine  their  conduct  and  even  many  more 
policyholders  are  not  sufficiently  interested  to  make 
the  attempt.  Much  greater  positive  protection  could 
be  secured  by  enforcing  responsibility  upon  the  trus- 
tees of  insurance  companies,  by  making  them  liable 
for  the  acts  of  officials  whom  they  are  chosen  to  di- 
rect. Seventh,  the  character  of  the  insurance  de- 
partment officials  in  the  states.  In  a  number  of 
states  this  official  is  elected  by  the  people  or  by  the 


254  PRINCIPLES   OF  INSURANCE 

legislature  and  in  other  states  appointed  by  the  gov- 
ernor. In  either  case,  it  is  argued  that  his  election 
or  appointment  is  likely  to  be  a  proof  of  the  ability 
of  the  official  as  a  politician  rather  than  an  indication 
of  his  ability  to  perform  the  duty  of  this  office  which 
requires  considerable  knowledge  of  a  technical  char- 
acter. It  is  doubtless  true  that  the  office  has  been 
the  tool  of  politics  too  frequently,  but  within  the 
last  decade  there  has  been  a  marked  improvement 
in  the  personnel  of  the  state  insurance  commissioner. 
The  office  is,  however,  usually  of  too  uncertain 
tenure  for  a  commissioner  to  accomplish  very  much 
in  a  constructive  way,  even  if  he  is  an  able  one. 
After  an  official  has  been  in  office  long  enough  to 
learn  the  business,  he  is  likely  to  be  replaced  by 
another  member  of  his  political  party  or  some  one 
from  the  opposing  political  party.  However,  much 
of  the  work  has  become  so  technical  that  the  clerical 
force  cannot  be  immediately  changed  with  every 
change  in  the  chief  officials,  and  this  fact  largely 
explains  why  the  state  supervision  has  been  as  effi- 
cient as  it  has  been. 

Notwithstanding  the  many  valid  objections  against 
state  regulation  of  the  insurance  business,  it  is  not 
probable  that  we  are  soon  to  have  federal  regulation. 
This  is  not  to  be  explained  by  the  difficulty  of  secur- 
ing an  amendment  to  the  constitution  nor  on  the 
ground  that  the  Supreme  Court  is  not  likely  to  re- 
verse itself.     It  is  primarily  due  to  the  fact  that  the 


RELATION  OF  THE  STATE    TO  INSURANCE     255 

• 
states  have  no  desire  to  give  up  its  regulation.    They 

would  resist  any  attempt  to  transfer  its  regulation 
to  the  federal  government.  It  is  too  important  a 
source  of  revenue  for  the  states  and^too  majiy  oppor- 
tunities are  present  to  benefit  the  people  of  one  state 
apparently  at  the  expense  of  another  state  by  secur- 
ing from  foreign  companies  large  revenues.  The 
people  at  large  have  not  yet  a  sufficient  understand- 
ing of  the  character  of  insurance  to  perceive  its  so- 
cial significance  and  to  comprehend  that  it  is  a 
business  of  general  rather  than  local  interest. 

REFERENCES 

Publication  of  American  Economic  Association.     Third  Series, 

Vol.  VIII,  pp.  137-204.     Vol.  X,  No.  4. 
Yale  Readings  in  Insurance.      Vol.  I,  Chaps.  XXIII,  XXIV. 
Dryden,  John  F.     Life  Insurance  and  Other  Subjects.     Chaps. 

IX,  X. 
Wolfe,  S.  H.     The  Examination  of  Life  Insurance  Companies. 
Report  of  the  Joint  Committee  of  the  Senate  and  Assembly  of 

New  York  to  investigate  Insurance,  1906. 
The  Insurance  Year  Book,  1910,  pp.  33-114.     Published  by  the 

Spectator  Company. 


CHAPTER  XI 

INSURANCE  FOR   THE  WAGE  EARNERS 

We  shall  include  under  the  discussion  of  indus- 
trial insurance  a  description  of  the  industrial  insur- 
Protection  ance  sold  by  the  private  companies 
Working  organized  for  that  purpose,  the  various 
Classes.  plans  of  workingman's  insurance,  the 
employer's  liability  insurance,  the  old  age  pension 
plans  and  state  insurance.  Our  chief  purpose  is  to 
describe  the  principal  means  employed  to  secure 
protection  for  the  wage-earning  class.  In  addition 
to  the  above  enumerated  plans  it  must  be  understood 
that  such  work  of  protection  is  carried  on  by  local 
relief  societies  of  many  descriptions,  by  fraternal 
societies,  and  by  trade-unions.  These  methods  are 
usually  so  simple  and  well  known  that  they  do  not 
demand  a  detailed  discussion.  It  is  also  true  that 
ordinary  life  insurance  is  carried  by  many  of  the 
wage-earning  class.  The  term  "  wage-earning  class  " 
may  be  a  somewhat  indefinite  one,  but  the  phrases 
"laboring  class"  and  "industrial  insurance"  have  to 
most  minds  definite  significance,  and  in  the  business  of 
insurance  there  have  been  developed  particular  forms 
of  insurance  to  serve  the  wage-earning  class. 

256 


INSURANCE  FOR    THE    WAGE  EARNERS        257 

Industrial  insurance  may  be  supplied  in  the  follow- 
ing ways  :  (a)  By  private  stock  companies  organized 
for  profit.  (£>)  By  private  mutual  companies.  (<?)  By 
private  companies  whose  business  is  a  direct  result  of 
legislative  and  judicial  action  in  fixing  responsibility 
for  loss  upon  the  employer.  This  may  be  either 
voluntary  or  compulsory  insurance,  (d)  The  state 
itself  may  supply  the  protection. 

Before   discussing   each   of   these   methods,   it   is 
important    to    understand    how    the    evolution    of 
industrial  society  has  caused  the  need  of,  How  the 
and  the  demand  for,  insurance  for  the  wage  Netdi°rA 

°      such  Protec- 

earners  to  arise.  In  ancient  and  medieval  tion  Arose, 
times  the  social  and  industrial  organizations  pre- 
cluded the  existence  of  insurance  for  the  wage 
earner.  Indeed,  there  was  no  such  class  as  wage 
earners  as  we  now  know  them.  During  the  existence 
of  slavery  a  large  part  of  the  work  was  done  by  this 
class,  and  as  the  slave  was  considered  a  species  of 
property,  nothing  was  owed  to  him  by  his  employer 
or  owner.  He  cared  for  him,  not  so  much  as  a  duty, 
but  because  it  was  to  his  economic  interest  to  do  so. 
The  comparatively  simple  industrial  life  of  the  early 
times  gave  little  value  to  the  life  of  an  individual  as 
such.  During  medieval  times,  the  feudal  system 
prevailed  and  the  masses  of  people,  although  having 
in  many  cases  comparatively  few  rights,  enjoyed 
protection  from  their  lords.  The  hierarchal  form  of 
social   organization   gave  a  definite   status   to   each 


258  PRINCIPLES   OF  INSURANCE 

member  of  the  social  group.  Later,  when  the  trade 
and  labor  classes  had  freed  themselves  from  their 
dependence,  guilds  and  fraternities  arose.  One  of 
the  most  important  purposes  of  these  organizations 
was  to  care  for  their  members  in  times  of  sickness 
and  for  the  deceased  member's  family  in  case  of 
death.  The  first  classes  to  secure  independence 
were  the  commercial  and  trade  classes  of  the  free 
cities  and  as  capital  developed  they  assumed 
gradually  a  position  of  greater  independence  and 
importance. 

Capital  was  being  accumulated  from  the  activities 
of  the  trading  and  commercial  classes.  The  dis- 
covery of  gold  and  silver  in  the  new  world 
trial  Revolu-  supplied  a  stock  of  metals  upon  which  a 
money  economy  could  be  established. 
The  age  of  discovery  opened  up  new  lands  for 
exploitation  and  brought  into  existence  new  com- 
modities and  new  markets.  The  whole  industrial 
world  was  on  the  eve  of  a  revolution  as  a  result  of 
the  accumulated  capital,  the  stock  of  metals,  and  the 
new  markets.  This  so-called  industrial  revolution 
is  usually  said  to  date  from  1785  to  1825,  but  this 
period  marks  only  the  dates  between  which  the  trans- 
fer to  a  new  industrial  system  was  most  rapid  in  Eng- 
land. The  changes  were  so  very  marked  that  the  word 
revolution  may  be  applied  to  this  period  in  England, 
but  in  other  European  countries  and  in  the  United  States 
no  such  rapid  changes  occurred.     It  will  be  more  ac- 


INSURANCE  FOR    THE    WAGE  EARNERS        259 

curate  to  call  the  change  an  evolution  rather  than 
a  revolution  and  fix  the  dates  to  include  the  seven- 
teenth, eighteenth,  and  the  first  half  of  the  nineteentli 
centuries  because  during  this  period  the  capitalistic 
system  was  fully  established  in  the  European  and 
American  countries.  The  feudal  system  had  dis- 
appeared, the  household  or  domestic  system  of 
industry  had  largely  given  way  to  the  factory  system, 
which  the  previous  accumulation  of  capital  made 
possible,  and  the  new  markets  made  desirable.  But 
most  important  for  our  purpose  the  status  of  the 
laborer  was  radically  changed. 

The  laborer  lost  his  tool  and  gained  the  machine, 
which,  on  account  of  its  high  cost,  was  beyond  his 
powers  of  private  possession.  He  lost  his  The  Change 
personal  master,  and  gained  the  impersonal  mt*e  status 
corporation.  The  conditions  of  labor  were  Laborer, 
now  to  be  determined,  not  by  two  persons,  the 
laborer  and  his  master,  but  by  one  person  and  a 
thing.  The  laborer  gave  up  the  workshop  of  the 
home  and  went  intp  the  factory.  He  worked  for  a 
money  wage  under  a  wage  contract.  He  was  no 
longer  a  capitalist  and  a  laborer,  but  simply  a  laborer 
selling  his  only  possession  —  tin*e.  In  the  unprece- 
dented demand  for  goods,  it  is  not  surprising  that 
the  capitalistic  class  was  often  unmindful  of  the 
duties   which   they  owed   to   the  laborer  as  a  man. 

We  need  not  rehearse  how  the  humanitarian  ideas 
slowly   developed   and   how  thev  gradually  became 


260  PRINCIPLES   OF  INSURANCE 

expressed  in  various  measures  designed  to  protect 
the  wage-earning  class  ;  nor  what  efforts  were  made 
by  the  wage  earners  themselves  through  the  forma- 
tion of  friendly  societies  and  trade-unions  to  protect 
themselves  ;  nor  how  there  came  to  be  a  labor  ques- 
tion and  why  the  neglect  of  the  labor  class  during 
this  period  of  the  industrial  evolution  has  caused  the 
problem  to  become  so  acute  in  the  present ;  nor  how 
England,  because  she  was  the  farthest  developed  in- 
dustrially, began  to  enact  laws  for  the  protection  of 
the  labor  class  early  in  the  nineteenth  century  and 
how  other  nations  have  followed  her  example.  For 
our  purpose  it  is  sufficient  to  understand  that  the 
character  of  the  industrial  organization  of  the  present, 
demands  institutions  designed  particularly  for  the 
industrial  classes. 

We  shall  concern  ourselves  with  only  one  of  these 
institutions,  namely,  industrial  insurance.  The  pur- 
industriai  poses  of  such  insurance  may  be  classified 
Insurance.  as  f0n0ws  :  (a)  to  protect  against  the 
losses,  resulting  from  death  ;  (6)  to  protect  against 
injuries  ;  (e)  to  protect  against  old  age ;  (c?)  to  pro- 
tect against  sickness  ;  (0)  to  protect  against  unem- 
ployment. 

We  have  seen  that  the  industrial  insurance  which 
is  sold  by  the  private  companies,  such  as  the  Pru- 
dential and  Metropolitan  companies  in  the  United 
States  provides  for  the  insurance  of  every  member  of 
the  family  from  ages  1  to  70.     The  premiums  are 


INSURANCE  FOR    THE    WAGE  EARNERS        261 

paid  weekly  and  are  five  cents  or  multiples  thereof, 
depending  on  the  age  and  the  amount  of  insurance 
carried.  For  persons  under  10  the  average  policy  is 
about  $30  and  for  those  over  10  about  $150.  The 
premiums  are  collected  weekly  by  the  agents  of  the 
company,  and  this  is  the  most  important  element  in 
making  the  cost  of  the  insurance  high  to  the  policy- 
holder. This  kind  of  insurance  was  first  written  in 
England  in  1854  by  the  English  Prudential  Insurance 
Company  and  in  America  by  the  American  Pru- 
dential Insurance  Company  in  1875.  By  this  time 
there  had  developed  in  both  countries  a  large  number 
of  wage  earners  and  in  both  countries  this  kind  of 
insurance  soon  proved  popular.  At  present  there 
are  about  fifty  million  industrial  policies  of  this  de- 
scription in  force  and  in  the  United  States  the  amount 
of  business  in  force  in  1910  was  about  three  billion 
dollars  on  twenty-two  million  policies,  or  an  average 
of  $110  per  policy.  The  proceeds  of  these  policies 
are  intended  and  used  in  most  cases  to  pay  the  ex- 
penses of  burial. 

The  premiums  are  based  on  mortality  tables  which 
the  experience  of  such  companies  have  shown  are 
fully   adequate    to   meet   all   obligations.    ThePre- 

Indeed,  within  the  last  decade  some  of  the   ™*ml  °? 

Industrial 

industrial  companies  have  voluntarily  dis-  Policies, 
tributed  to  their  policyholders  millions  of  dollars  in 
dividends  or  in  premium  reductions  or  in  additions 
to  the  insurance.     The  contract  does  not  differ  in  a 


262  PRINCIPLES   OF  INSURANCE 

great  many  particulars  from  the  ordinary  life  insur- 
ance company's  contract  except  that  it  is  a  life  con- 
tract, that  is,  it  is  death  insurance.  The  lapse  ratio 
is  for  obvious  reasons  much  higher  than  in  the  ordi- 
nary company.  The  agency  department  is  neces- 
sarily one  of  the  most  important  departments  and  in 
several  of  the  large  companies  it  has  become  a  marvel 
of  efficiency.  The  agent  is  paid  on  a  commission 
contract,  the  terms  of  which  make  it  to  his  interest 
to  prevent  lapses,  as  well  as  to  secure  new  business. 
Some  of  the  more  important  direct  and  indirect  bene- 
fits claimed  for  industrial  insurance  are  :  — 

First.  It  directly  encourages  thrift  and  saving  on 
the  part  of  the  wage  earner.  He  acquires  the  habit 
„     ^    .     of  savin?  and  is  often  able  to  save  funds 

Benefits  of  ° 

industrial       out  of  his  earnings  in  addition  to  his  in- 

Insurance.  .  T,  .  , .         x  -, 

surance  premium.  It  is  very  questionable, 
however,  if  the  saving  habit  is  relatively  increasing. 
The  industrial  conditions  are  probably  making  saving 
more  and  more  difficult  and  at  the  same  time  making 
the  incentive  to  save  less  and  less.  The  standard  of 
living  has  been  rising  so  rapidly  that  there  is  a  con- 
tinual pressure  on  the  workingman  to  spend  his  income 
for  necessities,  conveniences,  and  luxuries.  There  is 
less  and  less  opportunity  for  the  wage  earner  to  pur- 
chase small  amounts  of  property  which  by  its  very 
material  existence  would  afford  a  powerful  incentive 
to  save  because  it  would  be  a  tangible  expression  of 
an  intangible  effort.     It  is  probably  true  that  few 


INSURANCE  FOR    THE    WAGE  EARNERS        263 

wage  earners  under  the  present  industrial  and  social 
system  can  look  forward  to  owning  their  homes. 

Second.  It  doubtless  does  much  to  preserve  self- 
respect  and  family  affection  by  providing  a  burial 
fund,  instead  of  receiving  from  the  public,  funds  for 
this  purpose.  However,  in  many  cases,  human  vanity 
is  sacrificed  to  family  needs  in  providing  an  extrava- 
gant funeral. 

Third.  It  not  only  provides  sufficient  funds  for 
burial  and  the  expenses  incident  to  the  illness,  but  in 
many  cases  something  is  left  for  the  widow  and 
children's  support  for  such  a  time  until  adequate 
means  of  support  can  be  found. 

Fourth.  It  also  in  an  indirect  way  supplies  large 
accumulations  of  capital  for  the  demands  of  modern 
industrial  activity.  The  insurance  sold  by  these 
private  companies  has  far  from  solved  the  problem 
of  securing  adequate  insurance  for  the  industrial 
classes,  for,  as  we  have  seen,  it  provides  for  a  fund 
only  in  case  of  death,  and  the  greater  part  of  the 
fund  is  used  for  burial  expenses. 

There  are  many  voluntary  organizations  of  the 
working  class  which  supplement  both  the  activity 
of  private   companies  and  also  the  com- 

pulsory  insurance   required  by  the  state.   Organiza- 
tions. 
Among  the  most  important  of  these  or- 
ganizations are  fraternal  orders,  trade-unions,  local 
relief  societies,  and  the  organizations  formed  by  cor- 
porations and  their  employees. 


264  PRINCIPLES   OF  INSURANCE 

The  fraternal  societies  are  composed  of  a  national 
organization  and  subordinate  lodges,  governed  in  all 
Fraternal  affairs  of  general  importance  by  the  charter 
Societies.  issued  to  them  by  the  grand  or  central 
lodge.  Funds  are  collected  by  the  central  lodge 
from  the  local  lodge  in  the  form  of  assessments  and 
out  of  these  funds  are  paid  the  death  benefits.  Bene- 
fits are  usually  paid  from  the  local  lodge  in  case  of 
illness  of  a  member  and  very  frequently  "  out  of  work 
benefits  "  are  paid.  Some  few  of  them  have  attempted 
to  found  an  old  age  pension  fund.  In  addition  to 
the  insurance  feature,  th3  social  and  ceremonial 
aspects  of  the  organization  appeal  to  many.  Not  all 
the  membership  would  admit  of  classification  in  the 
wage-earning  class,  but  the  greater  number  could  be 
so  classified.  We  have  already  seen  that  the  greatest 
weakness  of  such  orders  is  that  the  collections  are 
not  based  on  any  scientific  plan.  Many  of  them  do 
not  even  use  the  National  Fraternal  Congress  Table 
of  Mortality,  whose  rates  of  mortality  are  considerably 
lower  than  any  of  the  commonly  used  mortality  tables 
of  the  regular  insurance  companies.  The  state  has 
done  little  in  supervising  these  orders  and  the  begin- 
ning of  state  supervision  now  promised  will  un- 
doubtedly do  much  to  preserve  and  extend  the 
benefits  of  these  organizations  which  have  been 
based  on  laudable  motives  and  honestly  conducted 
in  most  cases,  although  too  often  on  unscientific 
plans. 


INSURANCE  FOR    THE    WAGE  EARNERS        2G5 

Trade-unions  among  their  other  activities  have 
paid  out  large  sums  for  the  insurance  of  their  mem- 
bers. They  have  as  yet  done  little  in  the  Trade- 
case  of  accidents  and  old  age  pensions,  since  Unions- 
they  have  depended  largely  on  the  employer's  liability 
laws  to  secure  awards  for  accidents.  It  is  at  the 
time  of  sickness  and  death  that  the  chief  benefits  are 
paid.  These  benefits  are  sometimes  paid  out  by  the 
local  union,  but  there  is  a  marked  tendency  towards 
the  practice  of  having  these  funds  collected  by  the 
National  Union.  The  ordinary  plan  is  for  each  mem- 
ber to  pay  a  certain  sum  each  week  or  month  into 
a  sick  and  death  benefit  fund.  The  death  benefits 
do  not,  however,  usually  consist  in  the  payment  of  a 
sum  in  excess  of  the  expense  of  burial  and  the  illness 
connected  with  it.  The  premiums  necessary  for  the 
payments  of  these  benefits  manifestly  vary  from  union 
to  union.  They  are  determined  by  the  character  of 
the  organization  or  of  similar  organization.  This 
activity  of  the  unions  has  done  much  to  popularize 
them  with  the  wage  earners.  The  members  feel  that 
they  are  providing  for  themselves  and  the  manage- 
ment of  these  activities  has  usually  reflected  much 
credit  on  the  labor  union.  It  is  suggested  that  as 
the  state  works  out  a  suitable  plan  of  insurance  for 
the  industrial  classes,  it  may  find  it  advisable  to  use 
the  trade-union  as  an  agency  for  distributing  state 
funds.  That  is  to  say,  the  state  would  subsidize  the 
union  by  transferring  to  it  funds  which  had  been  col- 


266  PRINCIPLES   OF  INSURANCE 

lected  by  taxation.  This  would  not  be  giving  these 
funds  in  any  sense  of  a  charity.  It  would  be  a  legiti- 
mate cost  of  production  which  society  ought  to  bear 
and  which  is  returned  to  those  who  are  now  unfairly 
bearing  a  high  cost  of  production.  It  is  sometimes 
replied  that  this  deficient  wage  should  be  given  to 
the  industrial  worker  at  the  time  he  earns  it,  that  is, 
in  an  increased  daily  wage,  but  the  actual  method  of 
making  the  wage  contract  precludes  any  likelihood 
that  this  will  be  done. 

The  local  relief  societies  which  secure  protection 
for  the  industrial  classes  are  very  numerous.  They 
Local  Relief  are  purely  voluntary  organizations  and 
Societies.  have  no  central  organization.  They  are 
most  commonly  formed  by  the  employees  of  a  large 
firm  or  corporation.  The  employers  may  or  may  not 
contribute  funds  to  the  employees'  organization.  A 
common  bond  of  union  and  sympathy  exists  among 
the  employees  of  any  large  business  concern.  In 
the  more  loosely  formed  organizations  of  this  descrip- 
tion no  adjustment  of  the  contribution  on  the  basis 
of  wage  received  is  attempted.  Each  pays  what  he 
pleases  with  the  result  that  the  contribution  is  not 
always  equitable.  In  the  better  organizations  ad- 
justment of  payments  to  wage  is  made.  Member- 
ship in  all  cases  is  voluntary.  Sick  and  death 
benefits  are  paid,  but  the  amount  differs  widely  from 
organization  to  organization.  The  greatest  weakness 
in  such  organizations  is  that  the  plans  on  which  they 


INSURANCE  FOR    THE    WAGE  EARNERS        267 

are  conducted  are  usually  unscientific  and  that  each 
confines  its  activities  to  the  particular  plan,  thereby 
depriving  itself  of  the  benefits  of  the  general  experi- 
ence of  such  organizations.  The  retiring  member 
receives  no  return  for  his  past  payments.  Those  in 
charge  of  the  funds  sometimes  defraud  and  often  no 
recovery  against  them  is  possible. 

The  relief  societies  formed  by  some  of  the  large 
corporations,  such  as  the  United  States  Steel  Corpor- 
ation and  the  Railways,  differ  from  the  Relief  De- 
above  in  that  the  former  are  organized,  £o?™ra-S  °f 
managed  by,  and  composed  of,  the  em-  tions. 
ployees,  while  in  the  latter  organizations  the  em- 
ployers have  a  part.  In  most  cases  the  employer 
originated  the  plan.  He  contributes  largely  to  the 
benefit  fund  and  assists  in  its  management.  The 
amount  —  if  any  —  paid  by  the  employee  is  adjusted 
to  his  wage,  but  no  employee  is  required  to  become 
or  to  continue  as  a  member.  Sick  and  death  benefits 
are  paid,  the  amounts  differing  in  different  relief 
societies.  In  many  of  them  benefits  are  paid  in  case 
of  accidents,  and  in  case  of  death,  benefits  are  often 
paid  to  some  one  dependent  upon  the  employee. 
The  dues  of  the  members  are  usually  deducted  from 
their  wages.  In  many  cases  pensions  are  paid  after 
a  specified  period  of  service  with  the  company. 

The  organization  and  management  of  this  class  of 
relief  societies  is  usually  very  efficient  and  in  marked 
contrast   to   that   of    the   employees'  organizations. 


268  PRINCIPLES   OF  INSURANCE 

There  is  a  security  and  certainty  about  the  contri- 
butions and  payments.  The  cost  of  the  pensions 
now  paid  by  several  of  the  railway  companies  is 
wholly  borne  by  the  company,  but  there  are  very 
definite  limits  under  which  the  employee  is  alone 
entitled  to  receive  the  old  age  pension. 

It  is  often  argued  that  the  activity  of  the  state 
legislatures  and  courts  in  enacting  and  interpreting 

the  employer's  liability  laws  has  had  much 
Relief  socie-  to  do  in  causing  employers  to  organize  such 

relief  societies  ;  that  it  is  a  deceptive  gen- 
erosity ;  that  in  effect  there  is  a  pressure  felt  by  the 
employee  to  become  and  continue  a  member  of  such 
societies  ;  that  relief  is  thus  sought  from  liability 
under  the  law  for  accidents  and  injuries  to  the  em- 
ployees by  thus  making  the  employee  less  willing  to 
institute  a  suit  for  damages.  Even  though  a  con- 
tract was  made  which  by  its  terms  freed  the  employer 
from  liability  because  the  employee  received  the  speci- 
fied benefits,  the  right  of  action  for  damages  would 
in  most  cases  still  exist.  Some  states  have  enacted 
laws  which  expressively  state  that  an  employee  can- 
not thus  contract  away  a  common  law  right. 

However,  it  must  be  recognized  in  fairness  to  the 
parties  concerned  in  such  industrial  insurance  that 
there  has  been  a  wonderful  advance  in  the  recogni- 
tion of  the  obligation  which  employers  owe  to  em- 
ployees and  a  commendable  willingness  on  the  part 
of  many  employers  to  assume  the  legal  as  well  as  the 


INSURANCE  FOR    THE    WAGE  EARNERS        2G9 

moral  obligation.  It  is  true  that  we  have  only  made 
a  beginning,  but  the  spirit  now  prevalent  argues 
much  for  the  better  solution  of  the  problem.  In 
some  cases  firms  and  corporations  pay  the  premium 
for  accident  insurance  of  the  employees  in  private 
insurance  companies. 

We  have  now  to  consider  another  form  of  insur- 
ance for  the  industrial  classes,  viz.  liability  or  em- 
ployer's liability  insurance.  The  terms  , 
"  liability  insurance  "  and  "casualty  insur-  Liability 
ance  "  are  often  used  interchangeably  by 
the  uninformed,  but,  properly  considered,  the  former 
is  included  in  the  latter.  Casualty  insurance  is 
insurance  paid  in  case  of  bodily  injury  or  death  or 
for  losses  or  damages  to  property,  excluding  losses  by 
fire,  which  have  been  caused  by  accidents  or  contin- 
gencies not  ordinarily  contemplated.  Its  chief  kinds 
are  personal  accident,  liability,  steam  boiler,  plate 
glass,  and  elevator  insurance.  We  are  here  con- 
cerned with  only  one  form  of  liability  insurance  and 
first  with  the  liability  insurance  sold  by  private  com- 
panies to  employers. 

The  rise  of  this  form  of  insurance  was  a  direct 
outgrowth  of  the  action  of  legislatures  and  courts  in 
either  establishing  new  principles  in  regard  to  the 
obligations  of  the  employer  to  indemnify  his  injured 
employee  or  by  the  enactment  into  statute  law  the 
common  law  principle  of  the  employer's  liability.  It 
is  therefore  to  be  distinguished  from  other  forms  of 


270  PRINCIPLES   OF  INSURANCE 

insurance  in  that  it  is  the  result  of  the  activity  of 
the  state  either  by  its  courts  applying  the  common 
law  or  by  the  legislature  enacting  into  law  the  prin- 
ciple of  employer's  liability. 

We  have  seen  that  the  relation  of  laborers  to  the 

employers  in  ancient  and  medieval  times  was  quite 

different  from  what  it  has  come  to  be  in 

Theory  of 

Employer's     modern  industrial  times.     The  factory  s}^s- 

tem  was  not  in  existence,  and  the  bond  of 
relation  between  the  laborer  and  the  employer  was 
closer.  The  personal  relation  was  more  definite. 
In  most  cases  the  number  of  employees  of  one  per- 
son was  limited.  The  laborers  worked  for  a  person, 
not  for  a  corporation.  Out  of  this  relationship  of 
early  times  there  grew  up  a  common  law  principle  of 
liability  of  the  employer  to  his  employees,  which, 
although  it  did  not  secure  full  protection  to  the  labor- 
ers, yet  was  thought  sufficient  until  late  in  the  nine- 
teenth century,  when  the  common  law  principle 
became  expressed  in  statute  law.  No  greater  proof 
of  the  helplessness  or  disadvantage  at  which  the 
laborer  bargains  with  the  capitalist  for  his  wage  is  to 
be  found  than  in  the  fact  that  it  was  over  a  century 
after  the  establishment  of  the  factory  system  before 
an  employer's  liability  law  was  enacted.  Dependence 
was  placed  in  the  operation  of  the  common  law  prin- 
ciple which  had  grown  up  from  very  early  times. 

We  naturally  look  for  the  most  definite  expression 
of  this  principle  in  Roman  law.     We  find  that  the 


INSURANCE  FOR    THE    WAGE  EARNERS        271 

master  under  this  law  was  not  only  responsible  to  the 

servant  for  any  injury  suffered  by  the  latter  when  not 

due  to  the  employee's  carelessness,  but  the  T.  t„, 

r     J  ...  Liability 

master   was    also   subject   to  liability  for  under  the 

•     .  or        ji  ,i  .    i  Roman  Law. 

an  injury  suffered  by  a  third  party  as  a 
result  of  the  actions  of  the  servant  when  in  the  em- 
ployment of  the  master.  It  is  important  to  under- 
stand, however,  that  the  liability  did  not  rest  upon 
the  master  in  the  following  cases  :  First,  if  the  person 
injured  was  a  fellow-servant.  This  is  known  as  the 
fellow-servant  doctrine.  Second,  if  the  employee 
knew  or  had  means  of  knowing  the  dangers  incident 
to  the  employment  and  voluntarily  accepted  the  em- 
ployment. This  is  known  as  the  assumed  risk  doc- 
trine. Third,  if  the  injury  resulted  from  the  combined 
negligence  of  employer  and  employee,  that  is,  the  lat- 
ter contributed  to  the  negligence  which  resulted  in 
his  injury.  This  is  known  as  the  contributory  negli- 
gence doctrine. 

We  state  that  it  is  important  to  understand  these 
limitations  or  exceptions  because  practically  all  the 
legislation  and  all  the  court  decisions  since  this  far 
distant  date,  so  far  as  they  have  given  greater  pro- 
tection to  the  employees,  have  done  so  by  modifying 
or  doing  away  with  these  limitations.  This  is  the 
goal  from  which  we  have  started  and  the  goal  to 
which  we  go  is  to  assess  upon  society  in  some  manner 
the  total  costs  of  production  ;  to  secure  for  the  la- 
borer, not  only  an  adequate  daily  wage,  but  also  a 


272  PRINCIPLES   OP  INSURANCE 

protection  against  accident  however  caused,  against 
sickness,  unemployment,  invalidity,  and  old  age.  Not 
until  then  will  many  agree  that  an  equitable  system 
of  distribution  has  been  devised,,  for  the  burden  now 
resting  on  the  shoulders  of  the  laborer  is  not  all  his  own. 
Without  tracing  the  changes  in  the  conditions  of 
work  and  the  changes  which  occurred  in  the  industrial 
m.    „    ,.  t.   organization  after  the  establishment  of  the 

The  English        ° 

Law  of  factory  system,  we  may  at  once  state  that 

as  a  result  of  these  changes  England  passed 
an  employer's  liability  law  in  1880.  England  was  the 
most  advanced  industrial  nation,  and  this  fact,  together 
with  the  character  of  its  people  and  government,  ac- 
counts for  this  law.  The  most  surprising  fact  about 
the  law  is  that  its  enactment  was  so  long  delayed 
both  in  Europe  and  America.  A  few  years  later 
(1887)  Alabama  and  Massachusetts  passed  a  similar 
law.  Other  states  have  slowly  followed,  and  we 
shall  again  have  the  very  great  difficulty  of  attempt- 
ing a  description  of  a  form  of  insurance,  the  character- 
istics of  which  are  determined  by  the  action  of  the 
legislatures  of  various  states. 

Congress  has  power  to  enact  such  a  law  only  in  so 
far  as  it  applies  to  interstate  commerce,  industry  in 
The  Law  of  the  District  of  Columbia,  and  its  own 
Liability  in  employees.  Even  in  these  cases  the  power 
states.  is  limited,  as  has  been  shown  by  the  courts 

declaring  illegal  the  law  of  1906  pertaining  to  the 
liability  of  common  carriers.     It  must  be  remembered, 


INSURANCE  FOR    THE    WAGE  EARNERS        273 

however,  that  the  common  law  principle  of  the  em- 
ployer's liability  was  in  force  in  all  the  states  and  in 
many  states  this  common  law  had  been  expressed  in 
statute  law.  In  many  cases  the  old  common  law 
principle  was  enlarged  at  the  time  of  adopting  it  in 
the  form  of  statute  law,  and  the  effect  of  the  changes 
made  by  the  states  since  then  has  been  to  enlarge 
the  principle.  The  personal  relation  of  the  employer 
and  employees  has  become  more  distant  with 
the  integration  and  concentration  of  industry  with  the 
result  that  the  state  has  felt  it  necessary  to  aid  the 
employees  in  securing  that  protection  which  they 
could  not  of  themselves  secure.  So  much  for  the 
conditions  which  give  rise  to  emp^er's  liability  in- 
surance. It  now  remains  for  us  to  describe  how  this 
insurance  is  conducted. 

The  object  of  employer's  liability  insurance  is  to 
indemnify  the  employer  for  losses  which  he  suffers 
as   a  result  of  the   enforcement    of   legal  ^ 

0        Purpose  of 

claims   made    by   his   employees.      These  Liability 

i    .  •  i  ..."  ,        -  .      Insurance. 

claims  arise  when  injuries  or  death  result 
to  the  employees  while  in  the  service  of  the  employer 
or  to  third  parties  when  about  the  premises  or  prop- 
erty of  the  employer.  This  protection  is  purchased 
by  manufacturers,  by  contractors,  by  transportation 
companies,  by  mine  owners,  by  owners  of  hotels  and 
theaters,  or  by  any  other  large  employer  of  laborers. 
The  indemnity  may  cover,  not  only  employees,  but 
any  one  who  suffers  an  injury  from  the  activity  of 


274  PRINCIPLES   OF  INSURANCE 

employees  and  ownership  of  property.  That  is  to 
say,  it  may  be  general  liability,  covering  all  liability 
for  damages  to  third  parties.  The  employer  or  owner 
purchases  from  a  company  this  protection  and  when  an 
injury  is  suffered  by  a  person,  for  which  he  may  be 
liable  for  damages,  the  company  settles  the  claim  or 
defends  it  in  the  courts.  The  employer  or  owner  has 
nothing  to  do  with  it.  He  has  purchased  this  pro- 
tection and  freedom.  The  insured  gives  notices  to 
the  company,  and  the  company  disposes  of  the  claim. 
The  premium  is  based,  in  the  case  of  employers  of 
labor,  upon  the  wages  paid  and  the  character  of  the 
The  Pre-  industry.  The  premium  is  a  certain  per 
mium.  cen^  0f  the  total  wages  paid.     It  may  or 

may  not  include  salaries  of  the  higher  officials  or 
employees.  The  calculation  of  the  premium  is  not 
as  simple  a  matter  as  it  would  seem.  First,  the 
number  of  employees  and  amount  of  yearly  wage 
varies.  There  is  therefore  provision  for  a  return  of 
a  surplus  premium  at  the  close  of  the  year  or  for  the 
payment  of  a  deficient  premium  by  the  employer  on 
the  basis  of  the  actual  wages  paid.  When  individuals 
leave  the  employment,  this  relieves  the  company  of 
liability  and  hence  affects  the  premium  which  should 
be  collected.  Second,  in  many  occupations  the 
degree  of  hazard  varies  widely  in  the  different  parts 
of  the  business,  and  equity  would  demand  that  the 
part  with  little  risk  should  not  be  burdened  by  the 
part  with  the  great  risk.     Third,  the  laws  of  the  dif- 


INSURANCE  FOR    THE    WAGE  EARNERS        275 

ferent  states  differ  in  the  degree  to  which  they  make 
an  employer  liable.  Some  fix  a  maximum  amount 
of  damages  which  may  be  collected,  while  others  do 
not,  and  juries  differ  very  greatly  in  their  idea  of 
what  constitutes  fair  damages.  Again,  frequent 
changes  are  being  made  in  the  laws,  and  these  require 
a  readjustment  of  rates.  The  adequacy  of  the  pre- 
mium was  a  matter  for  experience  to  disclose  and 
evidently  no  such  accuracy  as  in  the  case  of  the  life 
insurance  premium  has  been  or  probably  can  be 
secured. 

Cooperation  of  such  companies  was  secured  from 
1896  to  1900  and  valuable  results  were  secured  by 

compiling    the     experience    of     different  „  .. 

r        °  r  Cooperation 

companies,  but  one  of  the  leading  companies  among 
withdrew  from  the  organization  in  1900  omPames- 
and  new  companies  were  organized,  so  that  less  co- 
operation is  now  found.  In  no  other  kinds  of  insurance 
is  cooperation  needed  so  much  as  in  casualty  insur- 
ance, for  its  rates  are  the  least  scientifically  deter- 
mined, and  even  with  the  best  cooperation  certain 
elements  in  the  cost  cannot  be  determined. 

The  company  writing  liability  insurance  has  in- 
spectors whose  duty  it  is  to  inspect  plants  or  build- 
ings upon  which  insurance  against  claims  by  workmen 
or  users  is  desired.  The  character  of  the  industry 
or  building  may  preclude  any  company  writing  such 
insurance  for  the  employer  or  owner,  and  it  is  the 
duty  of  these  inspectors  to  inspect,  not   only  pro- 


276  PRINCIPLES   OF  INSURANCE 

posed  risks,  but  actual  risks.  They  advise  the  em- 
ployer and  owner  of  methods  by  which  accidents 
may  be  avoided.  The  owner  is  usually  disposed  to 
accept  the  advice,  since  it  may  favorably  affect  his 
premium. 

Employer's  liability  insurance  has  developed  since 
1880,  and  in  1909  the  premium  collection  on  such 
Status  of        insurance  by  the   private    companies  was 

Liability1'8  aboufc  $25>000,000  and  the  loss  payments 
insurance,  for  the  year  about  .$10,000,000.  The  ex- 
pense of  conducting  such  insurance  is  large,  for  in 
addition  to  the  ordinary  expenses  of  an  insurance 
company,  such  as  soliciting  the  insurance  and  office 
expenditures,  the  expenses  of  inspection  and  settle- 
ment are  very  much  larger  than  in  an  ordinary 
company.  The  very  numerous  changes  which  are 
being  made  by  legislatures  and  courts  in  reference 
to  the  relation  of  employer  and  employee  are  produc- 
ing very  great  changes  in  this  form  of  insurance. 
Policies  are  being  changed  to  comply  with  the  new 
conditions. 

There  are  many  objections  to  the  compensation  of 
workmen  under  the  law  of  negligence,  but  the  most 
Objections  important  objection  is  that  in  the  actual 
to  Em-  working   of   the  principle,    the    workmen 

Liability        receive  a  small  part    of  the  sum  paid  by 

Insurance.       tne     emplover      for     sucn     purpose.      The 

New  York  employer's  liability  commission  states  in 
its  report  of  1910  that  the  statistics  collected  from 


INSURANCE  FOR    THE    WAGE  EARNERS        277 

nine  insurance  companies  which  keep  separate 
employer's  liability  records  show  that  on  an  average 
only  36.34  per  cent  of  what  the  employer  pays  in 
premiums  for  liability  insurance  goes  to  the  injured 
workmen.  That  is,  for  every  $100  paid  by  the 
employer  for  protection,  less  than  $37  is  paid  to  his 
injured  workman.  The  $63  is  paid  to  attorneys, 
claim  agents,  and  for  the  cost  of  soliciting  the  busi- 
ness and  for  administration. 

It  must  be  understood  that  this  contract  of 
insurance  covers  only  the  legal  liability  of  the  em- 
ployer to  his  employee  and  not  the  moral 
obligation  which  either  the  employer  or  of  the 
society  owes  to  the  workingman.  Then, 
too,  as  we  have  seen,  this  form  of  insurance  has  not 
been  applied  to  some  plants  and  scarcely  at  all  to 
some  industries,  such  as  the  agricultural  industry. 
It  must  be  evident,  therefore,  that  great  numbers  of 
the  industrial  classes  are  not  now  protected  from  the 
risks  inevitably  associated  with  their  employment  and 
which  they  must  accept  because  they  must  sell  their 
product  —  labor ;  and  in  contrast  with  all  other  products 
the  seller  —  the  workman  —  must  deliver  himself  with 
his  product.  The  purpose  of  the  changes  now  being 
made  is  to  increase  the  protection  to  the  working 
class,  and  the  final  result  will  probably  be  to  lay 
down  a  broad  policy  of  workingman's  compensation 
under  which  he  will  be  protected  for  all  occupational 
injuries  ;  or,  if  carried  still  farther,  the  working  classes 


278  PRINCIPLES   OF  INSURANCE 

will  be  protected  against  unemployment,  sickness, 
and  infirmity.  In  any  case  liability  insurance  will 
have  a  wonderful  development  and  two  methods  of 
providing  this  insurance  may  be  supplied.  It  may 
be  secured  from  private  companies,  organized  for 
this  purpose.  This  is  the  chief  method  now  in  vogue. 
In  this  event  the  cost  of  the  greater  protection  will 
be  shifted  ultimately  to  society  by  the  employer  in 
an  increased  price  for  the  goods.  If  the  industrial 
nations  should  adopt  the  principle  at  different  times, 
it  may  mean  hardships  to  particular  employers  in 
different  countries  in  that  their  cost  of  production 
will  be  increased. 

This  protection  may  be  supplied  directly  by  the 
state.  In  this  event  the  funds  for  this  purpose  would 
Protection  be  collected  by  taxation,  and  society  would 
by  the  state.  ajs0  Dear  the  cost.  No  general  agreement 
can  be  secured  as  to  which  of  these  methods  would 
be  most  economical  and  most  advantageous  from  a 
social  standpoint.  It  must  be  realized  that  the  cost 
of  industrial  accidents,  unemployment,  and  dependent 
old  age  is  now  being  borne  by  society  in  the  form  of 
charity  and  various  means  of  relief  and  assistance. 
The  important  points  to  realize  are,  first,  that  those 
who  suffer  from  these  industrial  accidents  are  often 
not  well  enough  cared  for  to  maintain  themselves  as 
efficient  industrial  and  social  workers,  and  second 
that  in  the  present  methods  of  relief,  there  is  great 
danger  of  pauperizing  them  by  creating  the  idea  that 


INSURANCE  FOR    THE    WAGE  EARNERS        279 

Jbhe  relief  is  given  to  them  as  a  matter  of  sympathy 
and  not  as  a  matter  of  justice. 

The  costs  of  progress  are  always  present.  A  part 
of  these  costs  is  a  social  cost  and  should  be  paid  for 
by  society.  Another  part  may  well  be  considered 
an  individual  cost,  and  it  is  too  much  to  expect  that 
the  state  in  some  mysterious  manner  is  to  be  able  to 
prevent  misfortune  from  occurring  to  any  of  its  mem- 
bers, or,  if  it  does  occur,  to  indemnify  him  for  the 
loss  sustained  on  account  of  his  own  ignorance,  lack 
of  thrift,  and  industry.  Society  must  see  to  it  that 
the  individual  is  given  a  chance  to  do  and  an  incen- 
tive to  do,  but  no  more  fatal  check  to  progress  could 
be  established  than  a  system  which  would  encourage 
the  individual  member  of  society  to  look  to  his 
fellow-members  to  do  his  share  of  the  world's  work, 
to  reimburse  him  for  all  his  personal  misfortunes  and 
to  rectify  all  his  mistakes. 

The  activity  of  the  state  in  the  United  States  in 
regard  either  to  aiding  directly  the  wage  earner  or 
compelling  insurance  of  the  working  class  Government 
has  been  limited.     Its  chief  activities  are  Pensions- 
confined  to  federal,  state  and  municipal  pensions. 

The  federal  system  of  pensions  for  those  who  have 
served  the  state  in  time  of  war  is  too  well  known  to 
need  description.  This  has  been  also  applied  to  the 
life-saving  service  and  to  the  army  nurses.  It  has 
been  proposed  to  apply  it  to  all  civil  service  em- 
ployees, as  is.  the  case  in  most  countries,  but  the 


280  PRINCIPLES   OF  INSURANCE 

proposal  has  never  been  accepted  in  the  United 
States.  The  southern  states  also  provided  a  pension 
system  for  those  who  served  the  confederacy  during 
the  Civil  War.  It  is  true  that  this  form  of  insurance 
as  well  as  that  of  the  cities  applies  to  a  particular 
class  of  workers,  but  no  account  of  industrial  insur- 
ance would  be  adequate  without  reference  to  these 
systems. 

A  number  of  cities  in  different  states  provide  a 
pension  fund  for  the  firemen,  policemen,  and  teachers. 
Municipal  ^n  ^ne  case  °f  the  first  and  second  class 
Pensions.  ^he  funjs  are  derived  from  various  sources. 
Sometimes  the  proceeds  or  parts  of  the  proceeds  of 
special  taxes  are  set  aside  for  this  purpose.  The 
subject  has  caused  considerable  discussion  and  the 
laws  providing  for  such  pensions  have  been  frequently 
a  matter  for  adjudication  by  the  courts,  since  the 
laws  governing  municipal  action  differ  in  the  dif- 
ferent states  and  are  frequently  changed.  Benefits 
are  generally  paid  to  the  widow  of  the  employee  of 
the  city  in  case  of  death,  and  a  pension  is  granted 
to  minors.  After  a  certain  period  of  service,  the 
employee  may  be  retired  on  a  pension,  or  a  pension 
may  be  paid  for  disability  acquired  in  the  service 
of  the  city.  Teachers'  pensions  are  on  much  the  same 
plan,  although  laws  attempting  to  secure  a  compul- 
sory contribution  from  the  employee  have  been  de- 
clared unconstitutional  in  several  states,  such  as 
Ohio  and  Minnesota.     The  next  step  will  probably 


INSURANCE  FOR    THE    WAGE  EARNERS        281 

be  to  require  compulsory  contribution.  The  argu- 
ments for  and  objections  to  such  plans  of  insurance 
will  suggest  themselves,  and  since  all  these  plans 
are  yet  in  their  developmental  stages,  no  detailed 
account  of  them  is  here  attempted. 

The  state  which  has  gone  the  farthest  in  legislat- 
ing on  insurance  for  the  industrial  classes  is  Mas- 
sachusetts. In  1907  this  state  passed  a  law  state 
which  permitted  savings  banks  to  estab-  insurance, 
lish  departments  to  sell  life  and  old  age  insurance. 
The  cost  of  administration  is  sought  to  be  kept  low 
by  its  association  with  the  banking  activities  and  by 
the  absence  of  solicitors.  The  past  experience  of 
providing  insurance  without  solicitors  has  not  proved 
successful,  but  it  is  hoped  that  the  insurance  under 
this  plan  will  be  solicited  by  organizations,  such  as 
labor  unions,  benefit  associations,  and  employers  who 
seek  to  have  their  members  or  workmen  insured. 
The  plan  has  not  been  in  operation  long  enough  to 
decide  its  success  or  failure. 

It  is  in  the  European  and  Australian  countries 
that  we  find  the  best  example  of  state  activity  in 
reference  to  insurance  for  the  industrial  state  Insur- 
classes.  We  shall  select  Germany,  Eng-  y^eYn 
land,  and  the  Australian  countries  as  Nations, 
typical  of  the  most  advanced  action  in  this  direc- 
tion. 

Germany  provides  for  compulsory  accident,  sick- 
ness,   and   old    age    insurance.      The   insurance    of 


282  PRINCIPLES   OF  INSURANCE 

workmen  against  accidents  dates  from  the  imperial 
law  of   1884,  which  with  its  later  amendments  re- 
quires  compulsory   accident  insurance   to 
State  Insur-    ^  *  / 

ance  in  be  paid  to  practically  all  workmen,  mana- 

gers, and  administration  officials  whose 
salary  does  not  exceed  $750  per  annum.  The  en- 
forcement and  administration  of  the  law  is  very 
largely  in  the  control  of  the  employers  with  state 
supervision.  Mutual  associations  of  employers  in 
the  same  or  closely  allied  trades  or  industries  are 
formed.  These  associations  determine  the  amount 
to  be  paid  by  each  employer.  This  payment  is 
based  on  the  pay  roll  and  the  risk  of  the  particular 
factory  or  plant. 

The    compensation   to    the   injured   workman   in- 
cludes the  following  :    (a)  medical   attendance,  in- 
eluding     bandages,    crutches,    spectacles, 
paid  in  etc.;     (b)    a    weekly    payment,   based  on 

the  wage  received,  the  extent  and  dura- 
tion of  the  disability ;  (<?)  in  the  case  of  death  a 
burial  benefit  and  a  pension  to  the  dependents,  if 
there  are  any.  The  workingmen's  sickness  insurance 
societies  pay  a  sick  benefit  for  a  period  of  at  least 
thirteen  weeks  and  of  this  sick  benefit,  the  employer 
contributes  one  third.  The  employers  are  thereby 
relieved  from  the  payment  for  this  period  of  time. 
The  cash  benefit  for  partial  disablement  is  two  thirds 
of  the  decrease  in  the  earning  power  and  for  total 
disability   two  thirds   of   the    wage.     Free  hospital 


INSURANCE   FOR    THE    H^AGE  EARNERS         283 

treatment  until  cured  and  a  reduced  benefit  to  de- 
pendents may  be  taken  in  lieu  of  the  cash  benefits, 
but  in  case  of  total  disability  the  cash  benefit  may 
be  increased  to  the  total  wage. 

In  case  of  accidental  death  a  burial  benefit  is 
paid,  and  a  pension  to  dependents  ;  for  the  widow 
as  long  as  she  continues  a  widow  and  for  the  children 
until  age  14.  These  pensions  vary  from  20  to  60 
per  cent  of  the  average  wage.  If  disablement  of 
the  workman  continues  beyond  thirteen  weeks,  the 
amount  to  be  paid  is  determined  by  these  mutual 
associations  of  employers,  but  provisions  are  made  by 
which  the  workman  can  appeal  to  a  board  of  arbitra- 
tion composed  of  two  representatives  of  the  em- 
ployers, two  of  the  workmen,  and  one  appointed 
by  the  state.  This  board  hears  claims  from  injured 
workmen  or  from  claimants  for  benefits  on  account 
of  the  death  of  the  workman. 

Compulsory    sickness    insurance    is   provided    for 

practically  all  workmen  except  agricultural  laborers, 

domestic  servants,  and  those  whose  annual  Sickness 

salary  exceeds  9200.     This  law  was  enacted  Insurance  of 

Voluntary 

in  1884  and  its  administration  intrusted  to  Organiza- 
the  many  societies  which  already  existed  faons* 
for  the  purpose  of  providing  sickness  insurance. 
Many  of  these  voluntary  societies  yet  exist  as  inde- 
pendent organizations,  but  there  is  a  tendency  for 
them  to  decrease  in  the  competition  with  the  compul- 
sory organizations.     In  the    voluntary  societies  the 


284  PRINCIPLES   OF  INSURANCE 

members  pay  such  premiums  as  they  choose  with  the 
limitation  that  the  payment  must  not  exceed  2  per 
cent  of  the  daily  wage.  In  the  involuntary  societies, 
the  employees  make  one  third  of  the  contributions 
and  the  employers  two  thirds.  The  benefits  secured 
are  as  follows  :  (a)  a  minium  benefit  in  case  of  dis- 
ability on  account  of  accident  or  sickness  for  at  least 
twenty-six  weeks  and  at  least  one  half  of  the  daily 
wage  ;  (6)  medical  aid  ;  (<?)  in  some  cases  hospital 
treatment  and  one  half  the  sick  benefits  paid  to 
the  family  ;  (d)  a  funeral  benefit  of  twenty  times 
the  average  daily  wage  ;  (#)  a  benefit  for  women  for 
six  weeks  after  confinement.  Additional  benefits 
may  under  certain  conditions  be  paid  and  the  time 
extended  to  fifty-two  weeks  during  which  benefits 
may  be  received. 

The  German  laws  providing  for  insurance  against 
invalidity  and  old  age  were  passed  in  1891  and  1899. 

All  persons  over  16  years  of  age  receiving 
State  Com- 
pulsory In-     wages,  clerks,  and    teachers    who  do    not 

Germanyfor  receive  a  salary  in  excess  of  1500  must  be 
Old  Age  and  insured.  The  invalidity  pension  is  paid 
regardless  of  age,  and  the  old  age  pension 
begins  at  70  regardless  of  whether  invalidity  has 
occured.  Invalidity  is  not  paid  in  case  of  occupa- 
tional accidents  nor  if  the  person  is  able  to  earn  more 
than  one  third  of  his  average  wage.  Old  age  pen- 
sions are  limited  to  those  who  have  contributed  to  the 
fund  for  at  least  twelve  hundred  weeks  and  invalidity 


INSURANCE  FOR    THE    WAGE  EARNERS        285 

pensions  to  those  who  have  contributed  at  least  two 
hundred  weeks.  The  government  pays  all  the  ex- 
penses of  administration  and  adds  $12.50  yearly  to 
each  old  age  pension.  The  remainder  of  the  cost  is 
borne  equally  by  the  employer  and  the  employee.  The 
amount  of  the  pension  as  well  as  the  employee's  con- 
tribution is  determined  by  his  average  annual  wage. 
If  the  recipient  is  receiving  a  pension  from  the  state 
or  a  disability  pension,  the  old  age  or  invalidity 
pension  is  not  paid,  if  either  one  with  his  personal 
income  is  in  excess  of  seven  and  one  half  times  the 
invalidity  pension. 

Although  Germany  has  no  insurance  against  un- 
employment, it  will  be  recognized  that  she  has  by 
legal  enactments  devised  the  most  complete  system  of 
workingman's  insurance.  The  industrial  progress  of 
Germany  during  the  last  decade  would  seem  to  show 
that  such  a  system  of  insurance  for  the  industrial 
classes  has  placed  no  bar  upon  her  development  or 
power  to  compete  with  her  opponents  in  securing 
trade,  notwithstanding  that  she  has  paid  out  under 
these  three  plans  of  insurance  over  one  billion  dollars. 

In  England  we  have  seen  that  no  special  protection 
was  given  to  the  workman  before  1880  except  what  he 
could   secure    from    the  courts  under  the   „ 

State  Insur- 

common    law,  governing    the   relation    of  ancein 
master  and  servant.     However,  in  1897  a     ngan  • 
new  law  was  enacted  which  permitted  the  servant  to 
secure  damages  upon  proof  that  he  was  injured  in  the 


286  PRINCIPLES   OF  INSURANCE 

employ  of  the  master  unless  gross  fault  was  proven 
on  the  part  of  the  employee.  In  1900  the  princi- 
ples of  the  previous  acts  were  extended  to  the  agri- 
cultural industry  and  in  1906  certain  amendments 
were  made  which  made  possible  the  collection  of 
damages  for  either  an  accident  or  an  incapacity  due 
to  disease  inevitably  connected  with  the  trade.  Em- 
ployers are  liable  for  payments  to  employees,  includ- 
ing clerks  and  salaried  employees  receiving  less  than 
$  1217. 50  yearly.  In  case  of  death  the  maximum 
payment  is  $1460  and  the  minimum  1730.  In  case 
there  are  no  dependents,  the  employer  must  pay  the 
medical  and  funeral  expenses  connected  with  the 
death  of  his  employee.  The  amount  paid  in  case  of 
disability  is  determined  by  the  duration  of  the  dis- 
ability and  the  weekly  wage,  the  maximum  benefit 
being  $4.87  per  week.  If  the  disability  is  perma- 
nent, the  compensation  is  made  weekly  throughout 
life.  England  has  for  many  years  encouraged  the 
purchase  of  annuities,  but  the  purchasers  have  always 
been  comparatively  few. 

In  1908  England  enacted  an  old  age  pension  law. 
The  person  must  have  attained  the  age  of  70,  must 
have  been  a  resident  of  the  country  twenty  years 
preceding  his  application  and  must  prove  that  his 
yearly  income  is  not  in  excess  of  $157.50;  also  that 
he  has  been  industrious  and  that  he  has  not  within 
the  past  ten  years  been  convicted  of  a  criminal 
offense.     The  amount  of  the  pension  is  graded  from 


INSURANCE  FOR    THE    WAGE  EARNERS        287 

$1.25  per  week  down,  according  to  the  income  of  the 
recipient.  The  expenditure  which  resulted  from  this 
act  was  far  in  excess  of  what  was  calculated,  the  first 
year's  expenditures  amounting  to  about  $40,000,000. 
The  fund  is  received  from  general  taxation,  no  contri- 
bution to  the  fund  being  required  from  the  pensioner. 

A  plan  for  sickness  and  unemployment  insurance 
has  been  recently  introduced  in  Parliament  which  pro- 
vides the  following  protection.  Sickness 

Nearly  15,000,000  men  and  women  are  and  Unefl- 

J  ployment 

included  in  the  scope  of  the  sick  insurance  Insurance, 
fund.  Every  worker  between  the  ages  of  eighteen 
and  sixty-five  whose  earnings  are  less  than  $800  a 
year  will  be  required  to  insure  against  sickness  by 
the  payment  of  eight  cents  a  week,  to  which  the  em- 
ployer will  add  six  cents  and  the  state  four  cents.  By 
this  means  free  medical  attendance  will  be  provided, 
maternity  benefits  granted,  and  in  case  of  permanent 
disability  a  life  pension  paid.  Only  the  house  build- 
ing, engineering,  and  ship  building  trades,  involving 
2,500,000  workers,  are  to  share  in  the  unemploy- 
ment insurance.  The  insurance  of  $1.75  a  week 
to  the  man  out  of  work  through  no  fault  of  his  own 
means  only  bare  subsistence  and  can  hardly  prove  an 
incentive  to  idleness,  against  which  other  precautions 
are  taken,  but  other  trades  in  turn  may  be  expected 
to  demand  equal  treatment. 

It  must  be  understood  that  all  these  plans  of  in- 
surance in  the  European  countries  do  not  supplant 


288  PRINCIPLES   OF  INSURANCE 

the  work  of  private  companies  and  mutual  societies, 
each  of  which  continues  in  operation.  The  activity 
of  the  government  simply  supplements  private  and 
collective  activities.  The  friendly  societies  of  Eng- 
land have  especially  given  much  protection  for  many 
years  to  the  working  classes  in  England. 

In  the  Australian  countries  more  advanced  experi- 
ments are  being  made.  In  New  Zealand  the  old  age 
state  insur-  pensions  are  paid  in  toto  from  state  funds. 

anceinthe  The  game  ig  true  in  New  gouth  Wales  and 
Australian 

Countries.  Victoria.  In  each  state  it  is  considered 
the  duty  of  the  state  to  support  the  worker  who  has 
contributed  to  the  productivity  of  the  nation  in  his 
earlier  years.  The  applicant  for  the  pension  must 
have  reached  the  age  of  sixty-five  and  resided  in  the 
country  twenty-five  years  previous  to  his  application 
for  the  pension.  He  must  have  lived  a  temperate 
and  industrious  life.  He  must  not  have  had  a 
prison  record  of  over  four  months  during  the  last 
twelve  years  preceding  the  application  and  must  not 
have  been  in  prison  over  one  year  at  any  time.  He 
must  have  an  honorable  family  record.  The  amount 
of  the  pension  cannot  exceed  fl30,  and  he  is  not 
entitled  to  any  pension  if  his  annual  income  exceeds 
$260.  The  pension  is  adjusted  from  f  130  down,  ac- 
cording to  the  income  received  from  other  sources. 
The  requirements  differ  somewhat  in  the  different 
countries  of  Australia,  but  the  principle,  is  the  same 
in  the  above-mentioned  countries. 


INSURANCE  FOR   THE    WAGE  EARNERS        289 

New  Zealand  has  a  state  department  for  accident 
and  liability  insurance  to  afford  employers  their  in- 
surance. The  laws  governing  the  liability  of  em- 
ployers are  practically  the  same  as  in  England.  The 
amount  which  can  be  collected  by  the  employee  is 
dependent  on  the  wages  which  he  receives,  as  in 
England.  The  private  companies  have  been  quite 
able  to  meet  the  competition  of  the  state  in  selling 
this  form  of  indemnity. 

Thus  we  see  that  insurance  for  the  industrial 
classes  has  made  great  progress  in  its  development 
since  1880  and  its  development  in  some  countries 
will  certainly  be  paralleled  in  other  nations.  Changes 
are  annually  being  made  in  the  different  nations  and 
the  student  should  familiarize  himself  with  this  topic 
by  acquainting  himself  with  the  arguments  for  and 
against  the  plans,  and  the  new  proposals  which  are 
being  made. 

REFERENCES 

Frankel,  Lee  K.,  and  Dawson,  Miles  M.     Workingmen's 

Insurance  in  Europe. 
Henderson,  Charles  R.     Industrial  Insurance  in  the  United 

States. 
Seager,  Henry  R.     Social  Insurance. 
Schloss,  D.  F.     Insurance  against  Unemployment. 
Lewis,  Frank  W.     State  Insurance. 
Willoughby,  W.  F.     Workingmen's  Insurance. 
Zacher,  G.     Die  Arbeiter-Versicherung  im  Auslande. 
Benefit  Features  of   American  Trade-unions.     United   States 

Department  of  Labor  Bulletin,  No.  22.     May,  1899. 
Report  of  the  New  York  Liability  Commission,  1910. 
u 


CHAPTER    XII 

ACCIDENTS   AND   HEALTH   INSURANCE 

In  treating  the  subject  of  this  chapter,  the  descrip- 
tion and  discussion  are  confined  to  that  branch  of 
Accident  casualty  insurance  known  as  personal  ac- 
insuranceas  cident  and  health  insurance.  It  is  the 
Personal  indemnity  purchased  by  an  individual 
insurance.  Up0n  himself.  He  may  be,  as  in  the  case 
of  ordinary  life  insurance,  the  beneficiary  under  the 
policy  or  he  may  select  a  beneficiary.  The  contrast 
which  we  wish  to  bring  out  is  that  there  is  no  third 
party  necessarily  involved  as  is  the  case  when  an 
employer  purchases  indemnity  from  a  company  against 
injuries  received  by  his  employees,  or  where  indem- 
nity is  purchased  as  in  surety  insurance  against  the 
defalcations  of  a  clerk,  or  when  indemnity  is  pur- 
chased, as  in  credit  insurance  against  a  failure  of  a 
person's  creditors  to  pay  their  debts. 

Personal  accident  insurance  preceded  health  in- 
surance in  its  development.  The  former  was  first 
Origin  and  applied  to  railway  travel  in  Europe,  and  the 
of  Occident  ^rs^  American  company  which  was  or- 
insurance.  ganized  to  sell  accident  insurance  was 
formed  in  1863.  An  accident  policy  has  been  defined 
as  "  a  contract  of  insurance  against  the  loss  of  life, 

290 


ACCIDENTS  AND  HEALTH  INSURANCE         291 

limbs,  sight,  or  time  through  bodily  injuries  effected 
solely   by  external   violent  and   accidental   means." 

However  satisfactory  this  definition  may  seem,  it 
has  been  found  in  the  actual  conduct  of  the  business, 
that  it  is  difficult  to  decide  what  is  and  what  is  not 
an  accident.  It  was  found  advisable,  therefore,  to  in- 
corporate in  the  policy  contract  a  negative  definition 
of  an  accident  by  stating  what  is  not  an  accident  and 
then  permitting  the  indemnity  to  cover  all  other  cases. 

Even  then  much  litigation  resulted  over  these  ex- 
ceptions and  many  companies  reluctantly  abandoned 
this  form  of  a  policy  for  the  accident  policy  now  in 
force,  which  is  almost  free  from  any  conditions  except 
those  connected  with  reporting  accidents  and  ad- 
justing claims.  Just  as  in  life  insurance,  not  all 
persons  can  be  insured  either  on  account  of  physical 
condition  or  occupation.  An  accident  insurance  com- 
pany can  cancel  its  policy,  like  a  fire  insurance  com- 
pany for  sufficient  reasons.  It  then  returns  the 
unearned  premium. 

The  early  accident  policies  had  many  conditions 

and  restrictions.     The  indemnity  was  small  in  amount 

and  in  case  of  sickness,  benefits  were  not  _„,  _    , 

TheEvolu- 

usually  paid  for  more  than  twenty-six  weeks,   tion'of  the 
However,  as  the  business  became  more  cer- 
tain and  better  established,  the  competition  among 
companies  resulted  in  a  removal  of  many  restrictions 
and  especially  in  an  increase  of  the  indemnity  and  ex- 
tension of  the  period  of  sickness  during  which  benefits 


292  PRINCIPLES   OF  INSURANCE 

were  paid.  This  period  is  at  present  very  frequently 
fifty-two  weeks.  Another  important  modification  in 
the  policy  which  came  with  the  development  of  the 
business  was  that  which  extended  the  policy  to  cover 
all  kinds  of  accidents  except  in  certain  unusual  cir- 
cumstances to  be  noted  later.  In  time  a  distinction 
was  made  between  total  and  partial  disability  and  in- 
demnity was  sold  for  the  latter  contingency.  The 
sum  paid  for  partial  disability  was  often  a  certain  per- 
centage varying  from  25  per  cent  to  75  per  cent  of 
the  sum  promised  in  case  of  total  disability.  Com- 
panies and  policyholders  have  often  not  been  able  to 
agree  as  to  the  extent  of  the  disability  and  much 
litigation  has  resulted. 

In  1899  health  insurance  began  to  be  written  in  the 
United  States,  although  there  had  been  several  at- 
Heaithln-  tempts  to  transact  this  kind  of  business 
surance.  before  this  time.  Health  insurance  had 
been  sold  in  Europe  for  some  time  before  this  date, 
both  by  private  companies  and  by  the  government. 
The  first  health  policies  sold  by  the  companies  in  the 
United  States  did  not  secure  protection  against  sick- 
ness caused  by  many  diseases,  for  such  statistics  have 
not  been  available  in  this  country  to  any  great  extent 
until  within  the  last  decade.  Gradually,  however, 
protection  against  many  diseases  was  given  until  now 
health  insurance  extends  to  losses  resulting  from  most 
of  the  diseases.  The  health  policy  was  at  first  com- 
bined with  the  accident  policy,  constituting  accident 


ACCIDENTS  AND  HEALTH  INSURANCE         293 

and  health  insurance,  and  this  plan  is  yet  followed  by 
some  of  the  companies.  Some  companies  now  write 
what  is  practically  an  unlimited  health  policy. 

In  the  development  of  the  business,  certain  im- 
portant benefits  have  been  added  as  a  result  of  the 
competition  among  companies  to  make  the  Benefits  in 
policy  more  attractive  to  the  buyer.  the  Policies. 
Among  these  benefits  may  be  mentioned  the  follow- 
ing :  (a)  double  indemnity  for  injuries  received 
under  certain  circumstances ;  (6)  the  payment  of  a 
stated  sum  in  case  of  injury  instead  of  the  weekly 
payments  provided  for ;  (c)  accumulative  benefits  up 
to  50  per  cent  of  the  principal  sum  of  the  first  year 
upon  the  payment  of  the  annual  premium  in  advance, 
the  yearly  additions  being  10  per  cent ;  (d)  a  surgi- 
cal benefit  to  be  paid  if  an  operation  is  required 
within  90  days  after  the  injury,  as,  for  example,  the 
payment  of  $2  for  the  injection  of  antitoxin  in  the 
case  of  lockjaw. 

Suicide  whether  sane  or  insane  is  usually  not  in- 
cluded, but  sometimes  the  company  pays  a  certain 
percentage,  often  10  per  cent  of  the  face  of  Restrictions 
the  policy.  The  Supreme  Court  of  the  *  the  Policy. 
United  States  in  1907  decided  in  the  case  of  Whit- 
field v.  iEtna  Life  Insurance  Company  that  a  com- 
pany cannot  set  up  suicide  as  a  justifiable  reason  for 
refusing  to  pay  a  claim,  if  a  state  law  expressly 
states  that  such  suicide  does  not  free  the  company 
from  liability  unless,  said  the  court,  "  it  be  shown  that 


294  PRINCIPLES   OF  INSURANCE 

the  insured  at  the  time  of  his  application  for  the 
policy  contemplated  suicide." 

The  health  policy  also  usually  has  a  limitation  of 
liability  arising  from  {a)  residence  in  the  tropics  or 
Extent  of  other  specified  regions ;  (5)  engagement 
Liability.  [n  military  or  naval  service ;  (<?)  sickness 
due  to  accidental  violence.  The  company  also  limits 
the  amount  for  which  it  will  be  liable  for  accident 
and  health  insurance  on  a  single  life.  This  may  vary 
from  $25,000  to  $100,000  or  more,  according  to  the  age, 
the  amount,  and  the  character  of  the  business  trans- 
acted by  the  insurance  company.  The  amount 
paid  in  weekly  benefits  must  not  exceed  the  weekly 
wage  in  accordance  with  the  fundamental  principle 
of  all  insurance,  viz.  that  the  individual  shall  not 
profit  by  insurance  on  his  life  or  property.  If  a  sum 
in  excess  of  this  weekly  wage  is  provided  for  by  in- 
surance in  several  companies,  each  company  reduces 
pro  rata  the  sums  it  pays  and  returns  to  the  policy- 
holder the  excess  premium.  A  policy  may  be  can- 
celed by  the  company  for  good  reasons  and  the  un- 
earned premium  on   it  returned  to  the  policyholder. 

A  schedule  of  losses  paid  by  one  of  the  leading 
accident  insurance  companies  is  as  follows  :  — 

Life $25,000 

Both  hands  by  severance  at  or  above  the  wrist  .  .  .  25,000 
Both  feet  by  severance  at  or  above  the  ankle  ....  25,000 
One  hand  severed  at  or  above  the  wrist  and  one  foot 

severed  at  or  above  the  ankle 25,000 

Irrevocable  loss  of  sight  of  both  eyes 25,000 


ACCIDENTS  AND  HEALTH  INSURANCE        295 

Either  hand  severed  at  or  above  wrist 12,500 

Either  foot  severed  at  or  above  ankle 12,500 

Irrevocable  loss  of  sight  of  one  eye 8,334 

The  above  are  the  indemnities  paid  for  accidents 
of  travel.  The  indemnities  due  to  ordinary  accidents 
are  in  each  case  reduced  about  50  per  cent.  There  are 
many  different  kinds  of  policies,  providing  for  different 
indemnity  under  different  circumstances. 

The  business  of  health  and  accident  insurance  is 
transacted  by  both  stock  and  mutual  companies,  the 
latter   including  fraternal  and  assessment 
companies.     In   organizing   a  stock  com-  Business  is 
pany  the  projectors  must  first  sell  a  certain 
amount  of  stock  and  invest  the  proceeds  in  securities. 
These   securities   are  then    deposited   with   a   state 
official. 

The  state  specifies  the  amount  of  this  deposit, 
usually  a  minimum  of  $100,000,  and  also  limits  the 
kind  of  securities  which  may  be  purchased.  The  Deposit 
These  securities  are  held  by  the  state  as  a  Fund- 
guarantee  that  the  claims  will  be  paid  in  case  the 
premium  receipts  and  the  reserve  are  not  sufficient 
for  this  purpose.  The  interest  on  the  deposit  is 
paid  to  the  company.  This  deposit  entitles  the 
company  to  write  personal  accident  insurance.  If  it 
desires  to  broaden  its  scope  of  business  and  become 
a  casualty  company  writing  various  "  lines,"  such  as 
burglary,  plate  glass,  steam,  and  other  lines  of  casualty 
insurance,  it  must  increase  its  deposits  with  the  state 


296  PRINCIPLES   OF  INSURANCE 

until  a  certain  maximum  is  reached,  often  1 250,000, 
when  it  is  permitted  to  write  all  lines  of  casualty 
insurance. 

In  addition  to  this  initial  deposit  the  company 
must  have  at  all  times  a  sum  either  invested  in 
The  Basis  of  securities  permitted  by  the  state  or  in  cash 
the  Reserve.  wnicn  is  equal  to  the  unearned  premiums 
on  all  unexpired  risks.  The  policy  is  usually  issued 
for  a  period  of  one  year  with  the  premiums  payable 
in  advance.  The  company  reports  as  of  December 
the  31st  to  cover  all  transactions  for  the  preceding 
calendar  year.  Inasmuch  as  it  is  assumed  that  the 
policies  have  been  issued  uniformly  throughout  the 
year,  some  will  be  almost  expired  and  some  will- just 
be  issued,  but  on  the  average  all  the  policies  may  be 
considered  as  being  in  force  one  half  a  year,  and 
therefore  one  half  the  premiums  have  been  earned 
and  the  other  half  is  unearned. 

In  the  early  history  of  the  operation  of  a  stock 
company  selling  personal  health  and  accident  insur- 
ance the  greater  part  of  the  funds  of  the  company 
received  from  premiums  and  other  sources  is  not 
available  for  current  expenses,  since  both  the  deposit 
fund  and  the  reserve  are  held  intact  under  the  law  of 
the  state.  Theoretically  all  the  reserve  is  set  free  at 
the  close  of  the  policies'  years  on  all  the  policies  for 
which  it  was  held,  that  is  to  say,  the  total  premium 
receipt  is  available  for  expenses  of  all  kinds  until  the 
risks  for  which  they  are  held  have  expired  and  until 


ACCIDENTS  AND  HEALTH  INSURANCE        297 

claims  on   such  policies  have  been  settled.     If  any 

sum  is  left  over,  this  is  a  possible  source  of  profits  to 

the  stockholders. 

In  the  actual  practice  of  conducting  the  business 

of  health  and  accident  insurance  by  a  stock  company 

whose  business  is  developing,  the  follow-  „ 

r     °  How  the 

ing  is  the  method.  In  order  to  secure  Business  is 
funds  with  which  to  start  the  stock  com- 
pany, the  stock  is  sold  at  a  premium.  This  the 
proposed  company  will  ordinarily  be  able  to  do, 
for  the  deposit  fund,  the  reinsurance  fund,  or  reserve 
fund,  the  surplus,  and  the  amount  to  be  held  for 
claims  in  process  of  adjustment  will  each  draw  inter- 
est for  the  company. 

It  must  also  be  realized  that  in  each  succeeding 
year  of  the  operation  of  a  developing  company  a 
smaller  relative  part  of  the  premium  income  from  the 
new  business  will  need  to  be  set  aside  for  the  reserve. 
For  example,  if  a  company  writes  business  upon  which 
there  is  a  $200,000  premium  income  for  the  year,  it 
must  set  aside  $100,000  as  a  reserve.  If  it  writes 
business  upon  which  the  premium  income  the  second 
year  is  $300,000,  it  must  have  $150,000  as  a  reinsur- 
ance reserve ;  but  it  already  has  $100,000  of  this 
sum  in  its  reserve  fund,  so  it  will  be  compelled  to  add 
only  $50,000.  If  it  had  written  only  $200,000  in  pre- 
miums the  second  year,  it  would  not  have  been  necessary 
to  take  any  of  this  premium  income  and  place  it  in  the 
reserve.     In  time  it  may  be  able  to  pay  out  even  all 


298  PRINCIPLES   OP  INSURANCE 

the  premiums  received  for  claims  that  fall  due  and 
yet  be  able  to  pay  the  stockholders  good  dividends. 
It  is  not  to  be  inferred  that  the  risks  of  one  year  pay 
for  the  risks  of  a  later  year,  but  the  company  instead 
of  taking  what  is  left  of  the  reserve  for  unexpired 
risks,  when  these  do  expire,  simply  permits  this  sum 
to  stand  as  a  contribution  to  the  reserve  for  the  new 
risks  which  it  writes. 

This  reserve  is  sometimes  called,  as  in  property 

insurance,  the  reinsurance  reserve,  but  care  must  be 

a  used   in   the   use   of   such   terms.      It   is 

Reserve  not 

a  Reinsur-  properly  called  the  unearned  premium  in- 
come or  simply  the  reserve.  While  it  is 
usually  true  that  this  reserve  makes  it  possible  for  a 
company  to  sell  its  business  to  another  company,  yet 
it  may  happen  that  the  purchasing  company  would 
not  assume  the  obligations  for  this  sum  or  it  may  be 
able  to  assume  them  for  less.  If  the  old  company  has 
carelessly  selected  its  risks,  the  so-called  reinsurance 
reserve  may  not  accurately  represent  the  real  risk, 
or  if  it  has  selected  the  risks  very  carefully,  this  re- 
insurance reserve  may  be  more  than  adequate. 

The  company  has  officers  similiar  to  those  of  any 
other  corporation.     The  stockholders  elect  the  board 

,  _      of  directors,  who  elect  the  president  and 
Internal  Or-  r 

ganizationof  other  important  officials.     Authority  and 
>m  any.    reSp0ns j ^^^y  tends  to  be  very  much  central- 
ized.    The  departments    are  similar  to  those  in  an 
ordinary  life  insurance  company  with  the  exception 


ACCIDENTS  AND  HEALTH  INSURANCE         299 

that  the  claim  department  is  of  relatively  greater  im- 
portance. It  can  be  readily  understood  why  the 
claim  department  is  of  such  importance,  for  in  the 
ordinary  life  insurance  contracts  the  conditions  under 
which  a  claim  is  paid  are  much  more  specific  and 
definite. 

The  premium  which  is  charged  for  an  accident 
policy  depends  upon  the  hazard  of  the  employment 
in  which  the  purchaser  is  engaged.  This  xhe  p,.^ 
hazard  is  obtained  from  the  collected  data  mium- 
of  accidents  in  various  occupations  and  from  these 
data  classes  are  constructed.  The  classification 
directly  determines  the  premium,  so  that  one  person 
may  be  compelled  to  pay  twice  as  much  as  another 
of  the  same  age  for  the  same  amount  of  accident 
insurance. 

Remembering  that  the  policy  provides  indemnity, 
it  may  be  understood  why  an  insignificant  injury, 
incurred  in  one  occupation  may  have  no  significance 
significance  in  another  one.  A  slight  ofanInJufy. 
injury  to  the  hand  worker  may  be  a  serious  one  for 
him  but  scarcely  affects  the  earning  power  of  the 
teacher  or  lawyer.  Then,  too,  the  hazards  in  occupa- 
tions are  continually  changing  on  account  of  improved 
appliances,  the  use  of  dangerous  machines,  dangerous 
material,  and  for  many  other  reasons.  Even  assuming, 
therefore,  that  the  most  complete  statistics  of  injuries 
were  available  for  any  one  year,  the  same  statistics 
would  probably  not  be  applicable  for  a  later  year, 


300  PRINCIPLES   OF  INSURANCE 

There  is  also  the  difficulty  of  properly  valuing  such 
factors  as  the  effect  which  an  occupation  has  upon 
the  physical  condition  of  the  insured  in  making  him 
more  liable  to  accidents.  Then,  too,  what  an  individ- 
ual does  when  he  is  not  employed  in  his  regular 
occupation  affects  the  hazard  of  the  risk  on  him.  For 
example,  occupations  which  are  subject  to  periods  of 
interruption  will  result  in  some  of  the  workers  doing 
such  acts  as  will  make  them  more  liable  to  accidents 
when  they  return  to  their  regular  work.  The  more 
regular  the  employment,  and  the  less  diverse  the 
ways  in  which  the  individual  employs  his  time  out- 
side of  his  regular  work,  the  more  accurate  is  the 
classification  likely  to  be.  However,  it  must  be 
remembered  that  all  insurance  has  to  do  with  large 
numbers  and  that  it  cannot  be  expected  that  individ- 
ual exactness  will  always  be  secured.  If  insurance 
classification  secures  relative  equity  as  regards  classes, 
it  has  gone  far  to  justify  itself  as  scientific. 

It  has  been  stated  that  the  claim  department  is  of 
great  importance  in  accident  and  health  insurance. 
Settling  This  is  so,  not  only  because  it  is  not  always 
Claims.  an  easv  matter  to  determine  the  indemnity 

to  which  the  honest  claimant  is  entitled,  but  also  be- 
cause many  attempts  are  annually  made  to  defraud 
the  company.  The  claimant  may  deliberately  injure 
himself.  This  is  especially  likely  to  happen  at  times 
when  he  is  out  of  work.  He  may  even  pretend  an 
injury  has  been  suffered,  or  attempt  to  prolong  his 


ACCIDENTS  AND  HEALTH  INSURANCE         301 

illness,  or  make  claims  for  injuries  which  are  not 
covered  by  the  policy.  Each  claim  must  be  examined, 
not  because  a  majority  of  them  are  fraudulent,  but  in 
order  to  protect  the  honest  claimant  by  refusing  to 
pay  the  dishonest  claim.  Manifestly  the  honest 
claimant  must  even  then  pay  in  the  form  of  a  higher 
premium  a  part  of  the  cost  of  discovering  these  fraud- 
ulent claims  by  a  higher  expense  for  operating  the 
company. 

The  relation  of  the  state  to  the  business  of  accident 
and  health  insurance  is  much  the  same  as  to  other 
insurance.     We  have  seen  that  a  deposit  and  The 

a  reserve  with  limitations  as  to  the  character  *?JflH5 

of  the  State 

of  the  securities  purchased  is  established  by  to  Accident 
the  state.    Annual  reports  are  also  required,    insurance 
However,  practically  all  the  legislation  up  Companies, 
to  within  the  last  few  years  has  been  to  secure  solvency 
of  the  company.     Since  1908  there  has  been  action  — 
and  action  is  pending  in  other  states  —  to  require 
standard  provisions  in  all  accident  and  health  policies. 
Such  legislation  is  intended   to  protect  the  policy- 
holder in  other  than  matters  of  solvency.     New  York 
passed  such  a  law  in  1909  and  as  the  laws  either 
enacted  or  proposed  follow  in  general  the  New  York 
statute,   the   chief    provisions   of   the   law   may   be 
stated. 

The  standard  provisions  for  all  accident  and  health 
policies   include   among   other   provisions  standard 
the  following  :  —  Provisions. 


302  PRINCIPLES  OF  INSURANCE 

(a)  A  copy  of  the  application  must  be  issued  with 
the  policy. 

(5)  A  provision  which  specifies  the  time  within 
which  notice  of  the  accident  or  disability  shall  be 
given.  This  period  shall  not  be  less  than  twenty 
days  from  the  date  of  the  accident  nor  less  than  ten 
days  from  the  date  of  the  beginning  of  the  disability 
from  the  sickness  upon  which  the  claim  is  based,  pro- 
vided that  in  case  of  accidental  death  immediate  notice 
may  be  required  unless  the  notice  therein  specified 
shall  be  shown  not  to  have  been  reasonably  possible. 

(<?)  A  provision  that  notice  to  the  agent  of  the 
company  or  sent  to  the  office  of  the  corporation  shall 
be  due  notice. 

(d)  A  provision  that  if  a  past  due  premium  shall 
be  accepted  by  the  company  or  by  a  branch  office  or 
by  an  authorized  agent  such  acceptance  shall  rein- 
state the  policy  as  to  disability  from  accidental  bodily 
injuries  thereafter  sustained,  but  such  acceptance  only 
reinstates  the  policy  as  to  disability  from  disease 
beginning  more  than  ten  days  after  the  date  of  such 
acceptance. 

(e)  A  provision  that  if  the  insured  changes  his 
occupation  to  a  more  hazardous  one  or  contracts  a 
disease  in  a  more  hazardous  occupation  than  the  one 
insured  under,  the  company  must  pay  such  proportion 
of  the  indemnity  as  the  premium  would  have  pur- 
chased at  the  same  rate  in  the  more  hazardous  occu- 
pation. 


ACCIDENTS  AND  HEALTH  INSURANCE        303 

(/)  The  company  must  pay  benefits  within  sixty 
days  of  the  receipt  of  due  proof  of  disability  or  death. 

{g)  No  policy  shall  limit  the  time  within  which 
proofs  of  claim  can  be  given  to  a  period  less  than 
ninety  days  from  date  of  death,  or  dismemberment, 
or  loss  of  sight  or  for  the  termination  of  any  other 
disability. 

In  addition  to  these  standard  provisions,  there  are 
also  certain  standard  prohibitions   among  pr0hjt>i_ 
which  may  be  mentioned  the  following  : —  tions- 

(a)  A  provision  limiting  the  time  at  which  an 
action  at  law  or  equity  may  be  commenced  to  less 
than  one  year  from  the  date  when  final  proofs  of  the 
claim  were  filed. 

(b)  A  provision  which  prevents  the  deduction  of 
any  premium  or  assessment  from  the  indemnity  un- 
less such  deduction  is  covered  by  a  written  order  or 
note. 

(tf)  A  provision  which  limits  the  amount  of  in- 
demnity to  be  paid  to  a  sum  less  than  the  indemnity 
payable  under  the  terms  of  the  policy  and  for  which 
the  premium  has  been  paid  unless  other  such  insur- 
ance is  carried  without  notice  to  the  company. 

The  premiums  written  in  1909  amounted  to  $24,- 
794,108  and  the  losses  were  19,903,379  or  a  loss  of 
44  per  cent.  The  greatest  needs  in  personal  acci- 
dent insurance  are  for  a  greater  degree  of  cooperation 
among  companies  in  order  that  the  specific  experience 
of  each  may  be  tabulated  with  a  view  of  making  the 


304  PRINCIPLES   OF  INSURANCE 

classifications  more  scientific  and  by  cooperation  to 
check  the  evils  of  excessive  competition. 


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INDEX 


Accident  Insurance  : 

character  of,  290. 

how  the  business  is  transacted, 
295,  297. 

origin    and   definition  of,    290. 

significance  of  an  injury  in,  299. 
Actual  experience  and  calculated 

experience,  64. 
Actuarial  Science,  15. 
Actuary,  the  duties  of,  122. 
Agency  department,  123. 
Agency  force,  the,  123. 
Agency  systems : 

brokerage,  125. 

direct,  124. 

general,  124. 
Agent : 

characteristics  of  a  good,  127. 

the  old  and  new  type,  126. 
Agents,  procuring  of,  in  new  com- 
panies, 117. 
Aggregates  of  Life  Insurance,  30. 
Alcohol   and  narcotics,   influence 

on  the  risk,  72. 
American    Experience    Table   of 

Mortality,  50. 
Amicable  Society,  The,  12. 
Ancient  Order  of   United  Work- 
men, 22. 
Annual  dividend  plan,  204. 
Annual  rate  of  mortality,  calcula- 
tion of,  68. 
Annuities,  9,  174. 

kinds  of,  175. 
Annuity  : 

definition  of,  175. 

due,  calculation  of,  137. 
Arithmetical  mean,  56. 


Assessment   company,    The,     22, 

100. 
Assessment  insurance  : 
in  Europe,  21. 
in  United  States,  21. 
Assessment     plan     forbidden    in 

Iowa,  104. 
Average  results,  36. 


B 


Beneficiary,  The,  160. 
Benefits  of  life  insurance  : 

economic,  6. 

social,  4. 
Benefits  of  selection,  50. 

definition  of,  66. 
Bernoulli,  theory  of   probability 

32. 
Binding  receipt,  159. 
Board  of  directors,  committees  of, 

120. 
Bonds: 

foreign,  214. 

government,   insurance   invest- 
ments in,  212. 

relation  to  investments,  215. 
Breslau,  11. 

population  table,  48. 
Brokerage  system,  125. 
Business  assessment  company: 

beginning  of,  22,  25. 

evils  of,  101. 


Carlisle  table,  The,  48. 
Cash  item,  The,  207. 
Cash  surrender,  The,  168. 
Casualty  insurance,  269. 


307 


808 


INDEX 


Chance  in  the  theory  of  proba- 
bilities, 31. 
Charter  of  insurance  companies, 

115. 
Claims     in     accident     insurance, 

300. 
Combined  Experience  Table,  49. 
Commissioner  of    insurance,  237, 

240. 
Commissions: 
of  agents,  124. 
regulation  of,  238. 
Companies: 

classification  of,  99. 

compared,  105. 

comparison  of  participating  and 

non-participating,  112,  231. 
examination  of,  241. 
operation  of,  120. 
organization  of,  114. 
Company  : 

accident  insurance,  297. 
selection  of  a,  229. 
Compound   interest    calculations, 

43. 
Compulsory  insurance  and  medi- 
cal examination,  70. 
Conditions  precedent  for  life  in- 
surance, 7. 
Conservation  of  life,  93. 

Relation    of     insurance     com- 
panies to,  97. 
Conserving  life,  methods  of,  95. 
Contracts: 

comparison  of,  231. 
liberalization  of,  165. 
one-sided,  80. 
parties  to,  150. 
Contribution  plan,  The,  197. 
Control   of    insurance    companies 

by  legislation,  126. 
Cooperation  among  companies  in 
industrial  insurance,  275. 

D 

Data,  early,  for  scientific    insur- 
ance, 10. 
Departments  of  a  company,  122. 


Deposit  fund,  114,  295. 
Depression   period   of    insurance, 

17. 
Disability  clause,  the,  163. 
Distribution  of  wealth  affected  by 

life  insurance,  7. 
Dividend: 

annual  plan,  204. 

deferred  plan,  202. 
Dividends: 

a  return  of  overcharges,  62. 

character  of,  196. 

methods  of  apportioning,  197. 

E 

Employer's  Liability  Commission 

of  New  York,  276. 
Employer's    liability,    under    the 

Roman  laws,  271. 
Employer's     liability     insurance, 
269. 
future  of,  278. 
in  England,  272. 
in  United  States,  272. 
objections  to,  276. 
purpose  of,  273. 
theory  of,  270. 
Endowment   policies,  advantages 

of,  228. 
English  Actuaries'  Table,  49. 
Episcopalian  Ministers'  Fund,  13. 
Equitable  Society  of  London,  12. 
Expectation  of  life,  58. 
Expenses: 

classification  of,  145. 
difficulty  of  assessing,  199. 
importance  of,  190. 
limit  of,  for  new  business,  191. 
the  first  year,  199. 
Experimentation,  period  of,  in  in- 
surance, 8. 
Extra  premium: 
objection  to,  91. 


Factors  affecting  birth  and  death 

rates,  48. 
Farr,  Dr.  William,  51. 


INDEX 


309 


Fisher,  Professor  Irving,  93. 
Formula: 

for  calculating  the   magnitude 

of  deviation,  60. 
for  compound  interest  calcula- 
tions, 45. 
for  mortality  tables,  56. 
for  present  worth,  45. 
Fraternal  companies,  evils  of,  103. 
Fraternal    insurance     on     assess- 
ment plan,  24. 
Fraternal  societies: 

changing  to  scientific  plan,  27. 
not   interfered    with  by   state, 
26. 
Fraud  in  insurance,  82. 


G 


Gambling  and  insurance  distin- 
guished, 37. 

General  Life  and  Trust  Company 
of  Philadelphia,  14. 

General  or  population  mortality 
tables,  48. 

Graunt,  John,  publications  of,  11. 

Greups,  not  individuals,  subject- 
matter  of  insurance,  36. 


II 


Halley's  mortality  table,  11. 
Hazard: 

in  case  of  women,  76. 

the  moral,  80. 
Health  insurance,  292. 
Healthy  English  Table,  51. 
Healthy  Males  Table,  51. 
Hereditary  tendencies,  79. 
Historical  development  of  insur- 
ance, 8. 

in  America,  12. 
Homans,  Sheppard,  50. 
Homogeneous  group  necessary  for 
insurance,  35. 


Ignorance  of  legislators  regarding, 
insurance,  19. 


Ignorance  of  public  regarding  in- 
surance, 20. 
Imperial  Statistical  and  Insurance 
DepartmentS/of  Germany,  52. 
Income,  source  of  insurance  com- 
pany's, 187. 
Industrial  and  General  Insurance 

Company,  27. 
Industrial  insurance,  27. 
amount  in  force  1910,  261. 
benefits  of,  262. 
by  savings  banks,  120. 
insurance  at  wholesale,  29. 
origin  of,  27. 
plans  of  companies,  261. 
purpose  of,  28. 

relation  to  guilds  and  fraterni- 
ties, 264. 
Injury,  significance  of,  163,  299. 
Inspectors  in  liability  insurance, 

275. 
Installment  plan,  154. 
Insurable  interest,  159. 
Insurance : 

a   business,    not   philanthropy, 

97. 
amount  of,  160. 

a  mutual  contract  among  indi- 
viduals, 37. 
buying  of,  223. 
combination  of  risks,  34. 
defined,  1. 
not  commerce,  252. 
selling  of,  126. 

when  it  should  be  taken,  85. 
Insurance  business,  subject  to  law 

of  decreasing  cost,  192. 
Insurance  commissioner,  work  of, 

115. 
Insurance    Company    of    North 

America,   13. 
Insurance  departments: 
beginning  of,  237. 
of  states,  237. 
Interest  accumulations:  determine 

in  part  the  premium,  43. 
Interest  earnings: 
actual,  219. 
assumed,  218. 


310 


INDEX 


Investigation   of  insurance   com- 
panies by  New  York,  18. 
Investments,  40. 

character  of,  206. 

importance  of,  205. 

in  corporation  securities,  215. 

in  stocks,  objections  to,  216. 

principles  governing,  221. 

regulations  of  summarized,  246. 

security  the  first  requisite,  223. 

statutory  requirements  regard- 
ing, 245. 


Lapses,  relation  to  profit,  193. 
Laws: 

proposed    for    Fraternal    Com- 
panies, 119. 

to  regulate  insurance  business, 
18. 
Legal  department  of  companies, 

123. 
Legal   reserve  insurance  defined, 

21. 
Level  premium  insurance,  21. 
Lien: 

determined  how,  88. 

on  policy,  88. 
Life  insurance: 

a  form  of  cooperation,  3. 

basis  of,  2. 

best  investment  for  small  sav- 
ings, 5. 

defined,  1. 

early  forms,  unscientific,  8. 

its  relation  to  economics,  7. 

origin  of,  2. 

real  beginning  of,  12. 

requisities  for  its  development, 
2. 
Life  Insurance  Company  of  Vir- 
ginia, 28. 
Limit  of  single  risk,  41. 
Lives  at  risk,  calculation  of,  58. 
Loading,  144. 

method  of,  143,  144,  147. 
Loans  on  policies: 

amount  in  1908,  212. 

relation  to  lapses,  209. 


London  Assurance  Company,  12. 
London  Bills  of  Mortality,  10. 

M 

Magnitude  of  deviation,  formula 
for  60. 

Maximum  age  limit  for  a  policy, 
162. 

Mean  annual  death  rate,  calcula- 
tion of,  56. 

Medical  director,  duties  of,  122. 

Medical  examination,  70. 

Mercers  Company  office  in  Lon- 
don, 11. 

Metropolitan  Industrial  Insurance 
Company,  260. 

Metropolitan  Life  Insurance  Com- 
pany of  New  York,  28. 

Milne,  Joshua,   Mortality  Table, 
48. 

Minimum  age  limit  for  a  policy, 
162. 

Mixed  plan,  definition  of,  108. 

Modern  insurance,  origin  of,  11. 

Money  lenders,  early  relation  to 
insurance,  8. 

Monopoly,  absence  of,  in   insur- 
ance, 173. 

Morbidity  and  mortality,  80. 

Mortality  cost  lowered  by  educa- 
tion, 94. 

Mortality  rate,  two  factors  of,  84. 

Mortality  savings,  source  of,  61. 

Mortality  tables,  53. 

American     Experience     Table, 

135. 
character  and  origin  of,  47. 
construction  of,  54. 
defined,  47. 
tables  in  use  at  present,  49. 

Mortgages: 

relation  to  investments,  212. 
relation  to  term  Insurance,  152. 

Mutual  Benefit  of  New  Jersey,  14. 

Mutual  companies,  control  of,  111. 

Mutuality,  basis  for  insurance,  7. 

Mutual  Life  of  New  York,  14. 

Mutual  plan,  definition  6f,  107. 


INDEX 


311 


Mutual  societies,  early  forma   of 
insurance,  9. 


N 


National  Convention  of  Insurance 

Commissioners,  241. 
National       Fraternal       Congress 

Table,  52. 
Negroes   not    generally   accepted 

as  risks,  78. 
Net  cost  of  policy,  110. 
New  business : 
limitation  on,  248. 
significance  of,  191. 
New  England  Mutual  of  Massa- 
chusetts, 14. 
New  lives,  effect   on  assessment 

companies,  68. 
Newsholmn's  Vital  Statistics  table, 

77. 
New  York   fire,  its  influence   on 

life  insurance,  14. 
New  York  Life,  organization  of, 

14. 
Non-participating  company,  112. 
Northampton  Table  of  Mortality, 

12. 
a  population  table,  48. 
Notes  accepted  for  premiums  due, 

16. 
Number  of  lives  necessary  to  be 

insured,  60. 


Occupation  mortality,  75. 

Occupations  classified  according 
to  hazard,  75. 

Old  line  company,  definition  of, 
99. 

Old  line  insurance,  21. 

Ordinary  life  policy,  advantages 
of,  226. 

Organization,  expenses  of,   117. 

Organizations  voluntary  for  in- 
surance, 263. 

"  Out  of  work  "  benefits,  264. 

Overweights,  74. 


Participating  company,  The,  112. 
Pensions  : 

government,  279. 

old  age  in  Germany,  284. 
Policy: 

accident,  evolution  of,  291. 

benefits  of,  293. 

classified  according  to  dividends, 
153. 

definition  of,  150. 

development  of,  157. 

forfeiture  of,  168. 

incontestability  of,  171. 

joint  life,  155. 

legal  construction  of,  161. 

loans  on,  208. 

no  "  best,"  225. 

not  an  investment,  224. 

of  a  corporation  on   its  presi- 
dent, 156. 

ordinary  classification  of,  154. 

return  premium,  156. 

standard   prohibitions  of,    172, 
303. 

standard    provisions    of,     166, 
301. 

tends  to  be  same  in  all  states, 
113. 

terms  of,  159. 

the  standard,  164. 

title  to,  159. 
Policyholder,     attitude     towards 

the  company,  111. 
Preliminary  term  plan,  The,  144. 
Premium  notes,  208. 
Premiums: 

definition  of,  130. 

in  accident  insurance,  299. 

in  assessment  companies,  147. 

in   industrial    insurance,  calcu- 
lation of,  148. 

in   liability    insurance,  calcula- 
tion of,  274. 

kinds  of,  130. 

level,  131. 

limited  payment,  141. 

net  annual,  138. 


312 


INDEX 


Premiums  : 

net  annual,  calculation  of,  137. 
net  level,  132. 

net  single,  calculation  of,  135. 
net  single  for  a  term  of  years, 

140. 
on  industrial  policies,  261. 
payment  of,  159,  167. 
term,  calculation  of,  140. 
the  endowment,  calculation  of, 

141. 
the  gross,  143. 

whole  life,  calculation  of,  137. 
Presbyterian  Ministers'  Fund,  be- 
ginning of,  13. 
President,  the  duties  of,  121. 
Price,  Dr.  Richard,  12. 
Probability: 

of  death,  determination  of,  56. 
of  dying  during  year,  55. 
of  living  during  year,  55. 
theory  of,  31. 
Probable  life  time,  59. 
Protection    for    working    classes, 

256. 
Proxy  method  of  controlling  com- 
panies, 110. 
Prudential    Assurance    Company 

of  England,  27,  261. 
Prudential    Insurance    Company 

of  New  Jersey,  261. 
Publicity  in    insurance   business, 
235. 


R 


Race  mortality,  78. 

Radix  of  mortality  table,  47. 

Rating  up  lives: 

effect  on  lapses,  87. 

methods  of,  86. 
Real  estate: 

amount  limited  by  law,  213. 

relation  to  investments,  213. 
Rebating,  248. 
Recently  insured  lives,  66. 
Regulation : 

federal,  of  insurance,  252. 

federal  versus  state,  252. 


state,  charact  3r  of,  236. 

state,  methods  of,  237. 

state,  reasons  for,  234. 

state  as  to  organization  of  com- 
panies, 238. 

state  theory  of,  233. 
Regional  mortality,  78. 
Reinsurance,  71. 
Reinsurance  fund,  179. 
Relief  departments: 

of  corporations,  267. 

organization  of,  268. 
Relief  societies,  local,  266. 
Reports: 

annual,  required  by  state,  248. 

character  of  state,  126. 
Requirements,  statutory,  244. 
Reserve: 

calculation  of,  179. 

cause  for  legislative  enactments, 
184. 

defined,  43. 

described,  178. 

in  accident  insurance,  298. 

individual,  180,  184. 

investment  of,  181. 

investment  of,  within  the  state, 
246. 

not  like  the  bank  reserve,  185. 

not  understood  by  early  policy- 
holders, 15. 

on  limited  payment  policy,  183. 

origin  of,  179. 

rule  for  calculating,  185. 

the    same    under    annual    and 
single  premium,  182. 

the  terminal,  180. 
Residence,  change  of,  165,  168. 
Retaliatory  laws,  242. 
Risk: 

amount  at,  146. 

classification  and  description  of, 
71. 

defined,  38. 

factors,  determine  the  class  of, 
74. 

measurement  of,  38. 
Royal    Exchange,    formation    of, 
12. 


INDEX 


313 


Salaries,  regulation  of,  247. 
Savings: 

from  interest,  187. 

from  loading,  189. 

from  mortality,  188. 
Scientific  insurance: 

beginning  of,  12. 
Scrip  certificates,  16. 
Secretary,  duties  of,  121. 
Selection: 

adverse,  65. 

defined,  65. 

of  lives,  64. 

present  process  of,  70. 
Select  mortality  table,  defined,  50. 
Self-selection,  69. 
Sex  mortality,  76. 
Sex  Mortality  Table,  77. 
Simpson,  11. 
Sinking  fund,  178. 
Society,  well  being  of,   promoted 

by  insurance,  4. 
Society  for  the  Assurance  of  Wid- 
ows and  Orphans,  The,  13. 
Solvency: 

laws  governing,  242. 

relation  to  first  year's  business, 
243. 
South  Sea  Bubble,  12. 
Spectator  Company's  Year  Book, 

217. 
Speculation,  companies  organized 

for,  17. 
State,  relation  of  the,  to  insurance, 

233,  301. 
State  insurance: 

benefits  of,  278,  281. 

in  foreign  countries,  281. 

in  Germany,  282. 
State  insurance  departments  : 

in  Australian  countries,  288. 

in  England,  285. 

in  Germany,  284. 

in  Massachusetts,  281. 

in  New  Zealand,  288. 
Statistical  departments  of    com- 
panies, 123. 


Stock  plan,  The,  defined,  105. 

advantages  of,  106. 
Substandard  lives,  treatment  of  ,83. 
Suicide: 

its  effect  on  risk,  40. 

rate  in  U.  S.,  82. 
Surplus,  The,  186. 

legal  limitations  of,  194. 

origin  and  composition,  187. 

the  divisible,  195. 


Table,  Young's,  of  insurance,  67. 
Tables  of  mortality,  47,  53. 
Tax: 

county,  on  premiums,  251. 

reason  for  its  existence,  252. 

state,  on  gross  premiums,  251. 

state  license,  251. 
Taxation  of  insurance  companies, 

249. 
Term  policy,  advantages  of,  229. 
Theory  of  life  insurance,  31. 
Theory  of  probabilities  applied  to 

life  insurance,  33.  s 

Thrift,  promoted  by  insurance,  5.  / 

Tontine  plan,  The,  203. 
Trade-union  insurance,  265. 
Treasurer,  the  duties  of,  121. 

U 
Ulpian  mortality  table,  9. 
Ultimate  mortality  table   defined, 

50. 
Under  average  lives,  35. 
Underweights  poor  risks,  73. 
Unearned  premium  income,  178. 
Uniformity     through     a     period 

necessary  for  insurance,  36. 

W 

Wage-earners  insurance,  256. 

protected  by  state,  278. 
Warranties    and    representations, 

171,  157. 
Wells,  Daniel  H.,  200. 
Western  and  Southern  Industrial 

Insurance  Company,  28. 
Wright,  Elizur,  169. 


T 


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